CORPORATE FINANCE ASSIGNMENT 2
Due Date: Week 9 --- 16:00 Thursday, 03 May 2018
The Beta for Colgate-Palmolive
Paul Covili, One of the founders of the firm Covili and Wyatt Ltd, has been talking to Joey (the firm’s finance manager) about the firm’s investment portfolio. As with any investment, Paul is concerned about the risk of the investment as well as the potential return. More specifically, because the company holds a diversified portfolio, Paul is concerned about the systematic risk of current and potential investments. One such position the company currently holds is stock in Colgate-Palmolive. Colgate-Palmolive is the well-known manufacturer of consumer products under brand names such as Colgate, Palmolive, Cold Power, Dynamo, Ajax and others. Covili and Wyatt Ltd currently uses a commercial data vendor for information about its positions. Because of this, Paul is unsure exactly how the numbers provided are calculated. The data provider considers its methods proprietary, and it will not disclose how stock betas and information are calculated. Paul is uncomfortable with not knowing exactly how these numbers are being computed and also believes that it could be less expensive to calculate the necessary statistics in-house. To explore this question, Paul has asked Joey to do the following assignments.
1. Go to finance.yahoo.com and download the ending monthly stock prices for ColgatePalmolive for the last 60 months (it can be from January, 2013 to December 2017). Use the adjusted closing price, which adjusts for dividend payments and stock splits. Next, download the ending value of the S&P 500 index over the same period. For the historical risk-free rate, go to the St. Louis Federal reserve website (www.stlouisfed.org) and find the three-month Treasury bill secondary market rate. Download this file. What are the monthly returns, average monthly returns and standard deviations for Colgate Palmolive stock, the three-month Treasury bill and the S&P 500 for this period? Comment on your calculated returns and standard deviations.
2. Beta is often estimated by linear regression. A model often used is called the market model, which is:
???? - ?????? = ???? + ????[?????? - ??????] + ????.
In this regression, ‘????’ is the return on the stock and ‘??????’ is the risk-free rate for the same period. , ‘??????’ is the return on a stock market index such as the S&P 500 index.
The symbol ‘????’ is the regression intercept, and, ‘????’ is the slope (and the stock’s estimated beta). The symbol, ‘????’ represents the residuals for the regression. What do you think is the motivation for this particular regression? The intercept ‘????’ is often called ‘Jensen’s alpha’. What does it mean? If the asset has a positive Jensen’s alpha, where would it plot with respect to the SML? What is the financial interpretation of the residuals in the regression?
3. Use the market model to estimate the beta for Colgate-Palmolive using the last 36 months of returns (The regression procedure in Excel is one easy way to do this). Plot the monthly returns on Colgate-Palmolive against the index and also show the fitted line. Comment on your calculated beta.
4. When the beta of stock is calculated using Monthly returns, there is a debate over the number of months that should be used in the calculation. Rework the previous questions using the last 60 months of returns. How does this answer compare to what you calculated previously? What are some arguments for and against using shorter versus longer periods? Also, you have used monthly data, which are a common choice. You could have used daily, weekly, quarterly or even annual data. What do you think are the issues here?
5. Compare your beta for Colgate-Palmolive to the beta you find on finance.yahoo.com. How similar are they? Why might they be different?
You are expected to submit this assignment in Word or PDF format in a clear and logical manner and should include a cover page (indicating Group name, ALL group member’s names and student numbers) available on the TSBE website at: http://www.utas.edu.au/business and economics/student resources/forms.
You are required to show your working in all questions; present tables of your analysis in your assignment and describe each step of the calculation.
All tables and data must be included in ONE submitted Word or PDF file. You must use size 12 font Times New Roman, 1.5 line spacing, 1 inch margins and 1 inch top/bottom margins.
Tables can be single spaced and the font size should not be smaller than 8pt; and tables must be numbered sequentially. Any illustrations used must be very clear and easy to understand.
Reference Guidelines: Citation in text: Please ensure that every reference cited in the text is also present in the reference list (and vice versa). Unpublished results and personal communications are not recommended in the reference list.
Web references: as a minimum, the full URL should be given and the date when the reference was last accessed. Any further information, if known (DOI, author names, dates, reference to a source publication, etc.), should also be given.
You must provide full references to sources used in your assignment. You are recommended to use the Harvard referencing system detailed at:
Submissions guidelines: Your assignment must be submitted electronically via the Dropbox on MyLO. The electronic copy should be lodged via MyLO no later than 16:00 Thursday 03 May 2018.
ONLY ONE submission is allowed. The submitted filename must be “SID_Surname” in which SID is the student number of the first group member listed on the cover page of the assignment; Surname is the student surname of the first group member listed on the cover page of the assignment. If you have problems submitting your assignment, you MUST contact your lecturer immediately explaining the situation by email AND attach your assignment in the email before the due time. In your email, you must clearly identify in the title of your email that you experiencing a problem in BEA651 Corporate Finance. In the body of the email, explain the specific problem. The late assessment and extension policy applies. Please refer to this policy in the Unit Outline.