KING’S OWN INSTITUTE

FIN702 – ASSIGNMENT 1

TRIMESTER 3, 2017

STUDENT NAME & ID___________________________________________________

TUTORIAL DAY & TIME: WEDNESDAY, 3 pm – 5 pm TUTOR: Dr M FIEDLER

SUBJECT NAME: PG – Investment and Portfolio Management

SUBJECT NUMBER: FIN702

VALUE: 20% of the Total marks – your performance in this Assignment will form part of your marks for the overall subject,

This Assignment is to be completed by students individually and is required to be submitted to the Tutor by 3.00 pm, Wednesday, 13 December, 2017, together with a KOI Cover Sheet.

Because the Assignment is predominantly calculation work, it will not need to be submitted through TURNITIN to assess suspected plagiarism.

That said, while it is encouraged that students interact and consult with their peers, including discussion over this Assignment, students will recognise that this is part of a competitive effort, and accordingly, each student – after any consultation with other students – should complete each of the questions by themselves. They should also read the declaration on the KOI Assignment Cover Sheet, to ensure their integrity is maintained before signing the Sheet. If in doubt, or if you have any questions, please refer to me.

Answers should be shown in the spaces provided hereunder.

With best wishes for completing a successful Assignment.

Dr Mervyn Fiedler

Subject Co-ordinator – FIN702.

21 November, 2017

ASSIGNMENT 1 – QUESTIONS

There are five (5) questions in this Assignment.

Marks allocated to each section of the question are shown alongside each question number.

Answer each part of each question on the question sheet, in the space provided. Show all workings for every question. Two sheets for additional workings are attached to this assignment – if more are required please print additional work sheets.

1) (1 + 1 + 1 + 1 = 4 Marks)

One year ago, you bought shares in each of 3 companies, D Ltd, E Ltd and F Ltd. The number of shares bought and the purchase price of each share is shown in columns (2) and (3) of the table below, and comprises your investment portfolio. Today, the price of each share is as shown in column (4) of the table.

Name of Company Number of Shares Purchase Price Share Price after One Year

(1) (2) (3) (4)

D Ltd 2,000 $25.00 $26.00

E Ltd 3,000 $10.00 $11.00

F Ltd 5,000 $8.00 $10.00

(a) Calculate the equally weighted portfolio return for the year. [Express your answer as a percentage return, correct to 2 decimal places.]

(b) Calculate the price-weighted portfolio return for the year. [Express your answer as a percentage return, correct to 2 decimal places.]

(c) Calculate the value-weighted portfolio return for the year. [Express your answer as a percentage return, correct to 2 decimal places.]

(d) Your father-in-law has recently retired, and has received a superannuation payout of $1,000,000. He and his wife (your mother-in-law) are living in a beach suburb of Sydney in their own home worth $1,500,000. They have no debts, having paid off the mortgage last year, and they have saved $100,000. Neither wish to work again. They know you are studying Investments at KOI, and have approached you. What investment advice would you give them?

2) [1 + 1 + 1 + 1 + 1 = 5 Marks]

Absolusia, an emerging economy, has just made an issue of coupon-paying bonds, each with 3 years to maturity, and a face value of $1,000,000. Each bond has a coupon rate of 4% per annum, payable half-yearly.

The bonds have a yield of j2 = 6%, that is 6 per cent per annum, compounded half-yearly.

(a) Calculate the current price of each $1,000,000 bond, correct to the nearer cent.

(b) Calculate the duration of each bond. (Show 4 places of decimals).

(c) Calculate the convexity of each bond. (Show 4 places of decimals).

(d) You have just heard that, immediately after issue, the yield on the bond has increased from 6% per annum, compounded half-yearly, to 6.2% per annum, also compounded half-yearly.

Using the formula (and/or the method) applied in (a) above, calculate the new bond price and the resultant price change, assuming that there are still 3 years until the bond’s maturity.

(e) Before the increase in yield in part (d) above took place, calculate the value of the bond at the duration date, as calculated in (b) above.

3) (1 + 1 + 1 = 3 Marks)

You are provided with the following information regarding the returns over each of the last three financial years (ending 30 June) for Lamb Ltd, the risk-free rate and the share market index (ASX200).

Year ended lamb Ltd Risk-free Rate Market (ASX200)

30 June (% p.a.) (% p.a.) (% p.a.)

2015 18 3.4 22

2016 19 3.1 20

2017 11 2.5 15

(a) Calculate the simple arithmetic average annual return over the 3 financial years for each of the following:

(i) Lamb Ltd

(ii) The Risk-free rate

(iii) The ASX200.

(b) Calculate the beta of Lamb Ltd. [HINT: First, calculate the covariance of Bob Ltd with the market, and the variance of the market.]

(c) Shares in Lamb Ltd are currently trading at $10 each. You are given the opportunity of buying 2,000 shares in Lamb Ltd in one year’s time at $12 each.

A condition of the offer is that you must agree to the deal now, even though payment will not be made until December, 2018.Assuming that you have the money, based on the above information and calculations you have made (and / or further make), would you accept the offer. Show all calculations and your reasoning. Assume CAPM holds.

4) [(1 + 1) + (1 + 1) = 4 marks]

(a) This is a theory question.

(i) Identify (one sentence each) two benefits and two drawbacks of an Australian investor investing in oerseas equities (shares). .

(ii) In which overseas country would you invest in the equity market at the present time. Give reasons.

(b) On 1 November, 2016, you (an Australian resident) transferred AUD1,000,000 to France to purchase shares in the car manufacturer, Renault (listed on the Euronext Stock Exchange) for EUR80.00 each. At that date, the exchange rate was EUR/AUD1.5000.

On 1 November 2017, you sold the shares for EUR90.00 each, when the exchange rate was EUR/AUD1.6000.

(i) Calculate your percentage return (correct to 2 decimal places) as an Australian investor. Show all calculations. Ignore brokerage and other transaction costs.

(ii) At what direct exchange rate (from an Australian investor’s perspective) would your AUD return be reduced to zero? [Show all calculations and your answer correct to 4 decimal places.)

5) ………………………………………………….(1 + 1 + 1 +1 = 4 Marks).

You are contemplating a portfolio of two risky assets, comprising 75% in Deakin Ltd and 25% in Hall Ltd.

Your broker’s analyst has predicted that, on an ongoing basis, the expected returns from these assets will be 8% per annum from Deakin Ltd and 10% per annum from Hall Ltd.

The standard deviations of the returns from the assets are expected to be 9% for Deakin Ltd and 11% for Hall Ltd.

The correlation between the two assets is 0.30.

Answer the following question parts, showing all calculations in each case.

(a) Calculate the expected annual percentage return of the contemplated portfolio.

(b) For the above portfolio, calculate the standard deviation. [HINT: See section 7.4 of Brailsford’s (2015) text-book.)

(c) What happens to the portfolio variance in (a) and (b) above when the asset returns are perfectly negatively correlated? Explain carefully.

(d) With the aid of two hypothetical worked examples, explain hoiow expected utility is a useful criterion for investor choice when the investor payoffs are certain.

END OF ASSIGNMENT

This page may be used for rough working or providing additional answers. If used for additional answers, please indicate this clearly, both in the main answer area and on this page.

This page may be used for rough working or providing additional answers. If used for additional answers, please indicate this clearly, both in the main answer area and on this page.

FIN702 – ASSIGNMENT 1

TRIMESTER 3, 2017

STUDENT NAME & ID___________________________________________________

TUTORIAL DAY & TIME: WEDNESDAY, 3 pm – 5 pm TUTOR: Dr M FIEDLER

SUBJECT NAME: PG – Investment and Portfolio Management

SUBJECT NUMBER: FIN702

VALUE: 20% of the Total marks – your performance in this Assignment will form part of your marks for the overall subject,

This Assignment is to be completed by students individually and is required to be submitted to the Tutor by 3.00 pm, Wednesday, 13 December, 2017, together with a KOI Cover Sheet.

Because the Assignment is predominantly calculation work, it will not need to be submitted through TURNITIN to assess suspected plagiarism.

That said, while it is encouraged that students interact and consult with their peers, including discussion over this Assignment, students will recognise that this is part of a competitive effort, and accordingly, each student – after any consultation with other students – should complete each of the questions by themselves. They should also read the declaration on the KOI Assignment Cover Sheet, to ensure their integrity is maintained before signing the Sheet. If in doubt, or if you have any questions, please refer to me.

Answers should be shown in the spaces provided hereunder.

With best wishes for completing a successful Assignment.

Dr Mervyn Fiedler

Subject Co-ordinator – FIN702.

21 November, 2017

ASSIGNMENT 1 – QUESTIONS

There are five (5) questions in this Assignment.

Marks allocated to each section of the question are shown alongside each question number.

Answer each part of each question on the question sheet, in the space provided. Show all workings for every question. Two sheets for additional workings are attached to this assignment – if more are required please print additional work sheets.

1) (1 + 1 + 1 + 1 = 4 Marks)

One year ago, you bought shares in each of 3 companies, D Ltd, E Ltd and F Ltd. The number of shares bought and the purchase price of each share is shown in columns (2) and (3) of the table below, and comprises your investment portfolio. Today, the price of each share is as shown in column (4) of the table.

Name of Company Number of Shares Purchase Price Share Price after One Year

(1) (2) (3) (4)

D Ltd 2,000 $25.00 $26.00

E Ltd 3,000 $10.00 $11.00

F Ltd 5,000 $8.00 $10.00

(a) Calculate the equally weighted portfolio return for the year. [Express your answer as a percentage return, correct to 2 decimal places.]

(b) Calculate the price-weighted portfolio return for the year. [Express your answer as a percentage return, correct to 2 decimal places.]

(c) Calculate the value-weighted portfolio return for the year. [Express your answer as a percentage return, correct to 2 decimal places.]

(d) Your father-in-law has recently retired, and has received a superannuation payout of $1,000,000. He and his wife (your mother-in-law) are living in a beach suburb of Sydney in their own home worth $1,500,000. They have no debts, having paid off the mortgage last year, and they have saved $100,000. Neither wish to work again. They know you are studying Investments at KOI, and have approached you. What investment advice would you give them?

2) [1 + 1 + 1 + 1 + 1 = 5 Marks]

Absolusia, an emerging economy, has just made an issue of coupon-paying bonds, each with 3 years to maturity, and a face value of $1,000,000. Each bond has a coupon rate of 4% per annum, payable half-yearly.

The bonds have a yield of j2 = 6%, that is 6 per cent per annum, compounded half-yearly.

(a) Calculate the current price of each $1,000,000 bond, correct to the nearer cent.

(b) Calculate the duration of each bond. (Show 4 places of decimals).

(c) Calculate the convexity of each bond. (Show 4 places of decimals).

(d) You have just heard that, immediately after issue, the yield on the bond has increased from 6% per annum, compounded half-yearly, to 6.2% per annum, also compounded half-yearly.

Using the formula (and/or the method) applied in (a) above, calculate the new bond price and the resultant price change, assuming that there are still 3 years until the bond’s maturity.

(e) Before the increase in yield in part (d) above took place, calculate the value of the bond at the duration date, as calculated in (b) above.

3) (1 + 1 + 1 = 3 Marks)

You are provided with the following information regarding the returns over each of the last three financial years (ending 30 June) for Lamb Ltd, the risk-free rate and the share market index (ASX200).

Year ended lamb Ltd Risk-free Rate Market (ASX200)

30 June (% p.a.) (% p.a.) (% p.a.)

2015 18 3.4 22

2016 19 3.1 20

2017 11 2.5 15

(a) Calculate the simple arithmetic average annual return over the 3 financial years for each of the following:

(i) Lamb Ltd

(ii) The Risk-free rate

(iii) The ASX200.

(b) Calculate the beta of Lamb Ltd. [HINT: First, calculate the covariance of Bob Ltd with the market, and the variance of the market.]

(c) Shares in Lamb Ltd are currently trading at $10 each. You are given the opportunity of buying 2,000 shares in Lamb Ltd in one year’s time at $12 each.

A condition of the offer is that you must agree to the deal now, even though payment will not be made until December, 2018.Assuming that you have the money, based on the above information and calculations you have made (and / or further make), would you accept the offer. Show all calculations and your reasoning. Assume CAPM holds.

4) [(1 + 1) + (1 + 1) = 4 marks]

(a) This is a theory question.

(i) Identify (one sentence each) two benefits and two drawbacks of an Australian investor investing in oerseas equities (shares). .

(ii) In which overseas country would you invest in the equity market at the present time. Give reasons.

(b) On 1 November, 2016, you (an Australian resident) transferred AUD1,000,000 to France to purchase shares in the car manufacturer, Renault (listed on the Euronext Stock Exchange) for EUR80.00 each. At that date, the exchange rate was EUR/AUD1.5000.

On 1 November 2017, you sold the shares for EUR90.00 each, when the exchange rate was EUR/AUD1.6000.

(i) Calculate your percentage return (correct to 2 decimal places) as an Australian investor. Show all calculations. Ignore brokerage and other transaction costs.

(ii) At what direct exchange rate (from an Australian investor’s perspective) would your AUD return be reduced to zero? [Show all calculations and your answer correct to 4 decimal places.)

5) ………………………………………………….(1 + 1 + 1 +1 = 4 Marks).

You are contemplating a portfolio of two risky assets, comprising 75% in Deakin Ltd and 25% in Hall Ltd.

Your broker’s analyst has predicted that, on an ongoing basis, the expected returns from these assets will be 8% per annum from Deakin Ltd and 10% per annum from Hall Ltd.

The standard deviations of the returns from the assets are expected to be 9% for Deakin Ltd and 11% for Hall Ltd.

The correlation between the two assets is 0.30.

Answer the following question parts, showing all calculations in each case.

(a) Calculate the expected annual percentage return of the contemplated portfolio.

(b) For the above portfolio, calculate the standard deviation. [HINT: See section 7.4 of Brailsford’s (2015) text-book.)

(c) What happens to the portfolio variance in (a) and (b) above when the asset returns are perfectly negatively correlated? Explain carefully.

(d) With the aid of two hypothetical worked examples, explain hoiow expected utility is a useful criterion for investor choice when the investor payoffs are certain.

END OF ASSIGNMENT

This page may be used for rough working or providing additional answers. If used for additional answers, please indicate this clearly, both in the main answer area and on this page.

This page may be used for rough working or providing additional answers. If used for additional answers, please indicate this clearly, both in the main answer area and on this page.

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