Financial Information Management_Management

Questions: 1) Assume you have invested half of your savings in a risk-free asset and half in a risky portfolio P. Is it theoretically possible to lower your portfolio risk if you move your risk-free asset holdings into another risky portfolio Q? In other words, can you ever reduce your risk more by buying a risky security than by buying a risk-free asset? 2) Is it possible that the holdings of an open-end fund are worth much more or less than what the shares of the fund are trading for? Explain with clear examples supported and referenced with relevant data. This question is designed to test your familiarity with sources of financial information which you will need collate market for valuation purposes. You will therefore be marked on solid demonstration of this capability. 3) If a firm repurchases 1% of its shares, does this change the capitalisation of the stock marketon which it is listed? If a firm distributes 1% of its value through dividends, does this change the capitalisation of the st ock market on which it is listed? You are required to explain your reasons including:i) Impact of share repurchase on market capitalisationii) Impact dividend payment on market capitalisation Answers: 1. Investemnet in risky portfolio to buy the risk free asset Yes, by purchasing more of risky portfolio, it is possible to buy the risk free asset. This could only be possible if the investment is done via diversifying the risky portfolio. Here the risky portfolio means investment made in equity or derivates instrumentsc (Baker, 2009). With the help of MPT theory this can be explained . The MPT theory explains the attempts to increase the expectation of the portfolio return which lower the amount of the risk by investing cautiously proportionally. MPT is very much a mathematical form of concept which specifies the diversification of the asset (Bichara, 2008). By making the equity investment diversified like purchasing the shares of the various sectors like pharmacy, FMCG, vehicles, banks, telecommunications, oil and gas etc are some of the major examples of diversifying the equity proportionately (Bierman, 2010). 1.1 MPT theory The MPT model is very much makes the investors portfolio risk averse by analyzing the risk and return. However, it has been noted that, MPT theory is very much does not be apply when the risk becomes the systematic risk such as recessions, depression, inflations , lower GDP etc are some of the major examples of the systematic risk (Boone and Kurtz, 2010). Systematic risk . Figure 1: MPT model on capital market investment (Source: Brigham, 2010, pp-234) Here the efficient frontier is based on the Markowitz bullet which explains the line in graph which lowered the risk as per the given level of return. Efficient frontier helps to gain the best suitable return (Brown, 2006). It intersects the portfolio with minimum number of the variance and set of portfolio which is very much based on the maximum return. The line red indicates the risk free investment which growth is constant in compare to the blue line where the risk is volatile but the growth is higher. (i)Expected return based on weighted combinations E (Rp)= Wi E (Ri) Where Ri = return Wi= weighted of component asset i (ii) Portfolio volatility Where is based on the covariance matrix q is the risk taking where the rules of the portfolio that ultimately becomes zero. q 0 = here the risk becomes the zero by diversification of portfolio investment in more than 3 or 4 sectors or the industry (Bryce, 009). Therefore as per the questions, q is another risky portfolio where the investor is looking to invest in order to buy the new more secured form of portfolio (Carrel, 2010). The non risky asset expenses are Bonds, Treasury bills, MBS (Mortgage back securities asset) and insurance. Some of the investment made by the investors as per the proportion is given below: Mutual fund % of the investment made in risky portfolio to avoid risk large capital stock 45% small capital stock 10% Foreign stock 15% Corporate bonds 30% Graph 1: Investment made to reduce the portfolio risk (Source: Ariel, 2006, pp-1612) From the above , it has been found that, the MPT theory is very much helps to understand the tactical asset allocations which helps the investors to manage and control the asset. However, the risk like systematic and the market risk cannot lower the risk of the portfolio (Asquith and Mullins, 2007). One of the major criticism of the theory is it is very much technical analysis. The technical analysis is based on the past record of the shares. The volatility of share pierce is very much volatility of purchasing of the shares that is very much costly like Microsoft or apple etc. 2.Holding of open end funded are worth of more or less than shares of the fund are traded for Open ended funds are very much is that type of fund which is very much unrestricted to the amount iof equity within the portfolio (Baskin, 2006). Open ended fund has high limit of equity in compare to the closed ended fund where the amount of equity is less. Open ended fund gives the investors full liberty to sell his/her entire shares whenever they want. However, closes ended fund has very ,limited amount if equity and are closely guarded with non risky financial instruments. Mutual funds are been suggested to the investors as per their risk appetite (Beaver et al. 2005). Open mutual fund are more riskier in terms of selling and buying of shares are been done in high degree. Open ended funds are sells and buy the shares on continent basis (Bhattacharya, 1980). Therefore the opened fund does not restrict the investors to make entry or exit in the market. The open ended fund can b also be purchased after the IPO (Initial public offerings). The shares are being purchased and sold on the basis of the NAV (Net asset Value). Open ended fund has more worth of holding rather than consistent trading because buying shares for the long term will give the n investors enough growth in future rather than frequent buying and selling. The number of the outstanding shares usually goes up and down every time if the frequent buying and selling takes places (Born et al. 2005). This is one of the major reasons why the capital market is changing frequently. Open ended funds are one of the most prominent way of mutual fund investments because of entry and exit mode as per the customers wish. The fund manager is very much responsible for the managing the fund of the investors by taking decision of them because of its is based on the daily calculation of NAV. Mutual fund is very much are different because when we buy and hold the mutual fund equity , the investor will have to pay the income tax on holding of the equity. Open-ended mutual fund are made subject to the single set of tax norms (Cadirci, 2008). In order to avoid the taxes the open ended funds are must be distribute within the December 31st. Open ended investments examples invested by the investors are given below: Open ended funds % of the investments Equity shares 48% Bonds fund 22% Money market instruments 24% Hybrid funds 7% The major concentration would be based on the stock funds, hybrid funds and bond fund that are very much long term securities. These hold the 76% of the total asset. Open ended fund are very much are looking to follow the index that is active funds and is looking to outperform an index (Campbell and Shiller, 2007). The standard index of capital market shows that 13% of the total mutual funds with more than 415 of index funds are been following the SP 500 index. The above investments are passive form of investments that can offer lower cost of diversifications. In layman language, index funds has very lower expenditure ratio (Cooper et al. 2009). 2.1Some of the major issues in the open ended funds are Performance of measurement scale: the performance of the open ended mutual fund is very much volatile because of the higher amount of the securities present in the portfolio. The, measurement of the performance of the shares or standard data sources to measure the performance are very much weak (Cooper et al. 2005). One of them is the index measurement which suggests that, interest paid and dividends paid are treated here. Some of the indexes are constructed on the basis of the daily investments, monthly investments and the most often dividend has been discarded. Another major problem would be the tracking of error which very much difficulty because of frequent changes in index which based on the formula of Rpt= ap + p (It) + ept (Dann, 2005). Where the ap= average return , (It)= time, p = sensitivity of index , ept = sum of error is small However, the mere speculation or rather totally depended on the following formula is not enough to understand the actual process of investing the funds. The NAV calculation helps to understand the actual growth of the funding which again has some of the major drawbacks (Dawson, 2009). NAV= Fund asset Fund liabilities/ Outstanding shares For instance, net value of worth of the mutual fund id $1 million , liabilities worth of the 100,000 and shares that are outstanding is 100,000 then NVA will be NAV=1000,000 -100,000/100,000 NAV= 9 per shares This shows that, the total return of the shares would be 9 per shares on the total investments of the 1 million. 3. Change in Market capitalizations of the stock market (i) Impact of the share re-purchase on the market capitalizations One of the major impacts of share repurchase on the stock market capitalization is that it increases the share price of the particular companies (DeMarzo and Duffie, 2005). Buy or repurchase of shares creates favourable trend in the current capital market of UK or any economy. With flexibility in the repurchase of the shares norms ahs made the most of the companies to buy back their own shares without manipulation cost (Divecha and Morse, 2008). If the companys buy back their 1% of shares then the value of the shares in the market is increased by more than 3.4% as per the SP report. Repurchase of shares increase the price of shares which hints the companies to gain the customer confidence which will result into high rise in the market price (Dodd, 2006). Continents Buy back shares cases % of re purchase transaction USA and Canada 13711 29% Asia 11637 24% Africa 1967 4% Europe and UK 14528 31% Latin America 679 1% Total cases 100% Graph 2: % of re purchase transaction of various continents (Source: Donaldson, 2009, pp-235) The buyback of shares has been affecting the stock market capitalization which leads to gain the high market. Since 2008 which shows the buyback has been from 8% to 21% post the financial crisis from the year 2009 (Downs, 2007). Most of the companies are very much wanted to reward their shareholders via dividends and constant purchase of the share buy back in order to keep attracted the investors the companies. For instance, Vodafone has more than hundred million shares 100 outstanding at start of the period of the year. The company shares were traded at 10 that gives the company exposure of more than 1 billion. Company has net income worth of 50 million in 2010 which shows that earning per share of the company is 0.50 p (Easterbrook, 2009). This shows that company has sold t its shares at 20. Therefore at end of year company would have more than 90 billion. Thus, this predicts that, company has repurchased its shares worth of 10 each. (ii) Impact on the dividend payments on the market capitalizations The impact of dividend payments creates the company goodwill in the market. Most of the blue chip companies like Vodafone, Tesco and Sainsbury gives the dividends to their investors or the shareholders who help to create the positive vibe in the mind of the existing customers and the potential customers (Cooper et al. 2005). Dividend payments again an important tool for the organization to creates high price of the market. The dividend payments change the market capitalization by huge because of the most of the long term investors are willing to invest in those companies who are giving the higher dividend. The divided here can be stock dividend or the cash dividends (Dawson, 2009). The stock dividend helps the investor and the stock market to boost its index because for instance if the Tesco is giving the 1% of the stock dividend to the each stock holder then the each of them would have 1% more shares after the issue of dividend. One of the major disadvantages here for the company is that company will have to face cash shortage or the shares shortage for the new investors which will gain ruin the expansion or growth plan in future (DeMarzo and Duffie, 2005). Reference List Books Baker, H. (2009). Dividends and dividend policy. 4th ed. Boston: Person Education. Bichara, L. (2008). Institutional ownership and dividend policy. 5th ed. London: Academic Press. Bierman, H. (2010) An Introduction to Accounting and Managerial Finance. 5th ed. Solihull: CGP Study. Boone, L., and Kurtz, D. (2010) Contemporary Business. 6th ed. California: Chicago Park Press. Brigham, E. (2010). Financial Management: Theory and Practice. 5th ed. USA: Global Professional Publishing. Brown, D. (2006). All about stock market strategies: the easy way to get started. 3rd ed. London: Harvester Wheatsheaf. Bryce, H. (2009). Financial and strategic management for non-profit organizations. 4th ed. London: Kogan Page Limited Carrel, L. (2010). Dividend Stocks for Dummies. 4th ed. Harvard: Harvard University Press Journals Ariel, R. A. (2006) 'High Stock Returns before Holidays: Existence and Evidence on Possible Causes', Journal of Finance, 45 (5), pp. 1611-1626. Asquith, P. and Mullins, D. (2007) the impact of initiating dividends on shareholder wealth, Journal of Business, 56(2), pp. 77-96 Baskin, J. (2006) Dividend Policy and the Volatility of Common Stock, Journal of Portfolio Management, 15(3), pp. 19-25 Beaver, W., Kettler, P. and Scholes, M. (2005) 'The Association Between Market Determined and Accounting Determined Risk Measures', Accounting Review, 45 (4), pp. 654-682. Bhattacharya, S. (1980) 'Non dissipative Signalling Structures And Dividend Policy', Quarterly Journal of Economics, 95 (1), pp. 1-24. Born, J., James M. and Dennis O. (2005) Changes in dividend policy and subsequent earnings, Journal of Portfolio Management, 3(2), pp. 56-62 Cadirci, B. (2008) 'The adjustment of security prices to the release of stock dividend/rights offering information', Journal of finance, 23 (10), pp. 222-333 Campbell, J. Y. and Shiller, R. J. (2007) 'Stock Prices, Earnings, and Expected Dividends', Journal of Finance, 43 (3), pp. 661-676. Cooper, M. J., Dimitrov, O. and Rau, P. R. (2009) 'A Rose.com by Any Other Name', Journal of Finance, 56 (6), pp. 2371-2388. Cooper, M., Gutierrez Jr, R. C. and Marcum, B. (2005) 'On the Predictability of Stock Returns in Real Time', Journal of Business, 78 (2), pp. 469-499. Dann, L. (2005) 'Common stock variables: an analysis of returns to bondholders and stockholders', Journal of Financial Economics, 9 (2), pp. 113-38. Dawson, S. M. (2009) 'The Trend Toward Efficiency For Less Developed Stock Exchanges: Hong Kong', Journal of Business Finance Accounting, 11 (2), pp. 151-161. DeMarzo, P. and Duffie, D. (2005) 'Corporate incentives for hedging and hedge accounting', Review of Financial Studies, 12 (7), pp. 743-771. Divecha, A. and Morse, D. (2008) 'Market Responses to Dividend Increases and Changes in Payout Ratios', Journal of Financial Quantitative Analysis, 18 (2), pp. 163-173. Dodd, P. (2006) 'Merger Proposals, Management Discretion And Stockholder Wealth', Journal of Financial Economics, 8 (2), pp. 105-138. Donaldson, G. (2009) Corporate debt capacity, Journal of Finance, 4(3), pp. 234-245. Downs, W. (2007) An alternate approach to fundamental analysis: The asset side of the equation, Journal of Portfolio Management, 17(2), pp. 6-17. Easterbrook, F. H. (2009) 'Two Agency-Cost Explanations of Dividends', American Economic Review, 74 (4), p. 650.