Textbook: Investment Analysis and Portfolio Management (10th edition), by Frank Reilly.
FIN 631 – Security Analysis & Portfolio Management
Module 1: Homework Problems – To Help Practice & Prepare for Midterm and Final Exams
Based upon Chapters 1, 2, 3 and 16 from your textbook
The first problem is a “brain teaser” to help you start the process of thinking from a finance perspective. Hint: In this instance, the solution is not necessarily based on such concepts as Discounted Cash Flow [though one can certainly use this principle] but more on common sense.
1) You are offered a job that pays $ 1000 per year to be paid every half-year. With it you are also offered a choice of two pay raise plans, one that pays $ 150 per year and one that pays $ 50 every half-year. Which one will you accept? Evaluating job offers is one of the most personal investment decisions a person can make.
The second problem is based on Chapters 1 & 2
2) Part a: Based on the following information, calculate the risk of each asset class in relation to its annual historic return.
Asset Class Geometric Mean (%) Standard Deviation (%)
Large Co. Stocks 12.83% 9.75%
Small Co. Stocks 14.87% 18.55%
Government Bonds 4.10% 2.58%
Corporate Bonds 4.81% 2.36%
Part b: Calculate the expected return for large and small stocks using the following information.
Asset Class Scenario Probability E(return)
Large Co. Stocks Bull Market 0.40 18.50%
Flat Market 0.30 4.50%
Bear Market 0.30 -15.00%
Small Co. Stocks Bull Market 0.40 30.00%
Flat Market 0.30 8.50%
Bear Market 0.30 -22.00%
Part c: Based on your calculation for “part b” and assuming that the equity portion of your portfolio is divided equally between large and small companies, what is the expected return for the total equity portfolio?
The third problem is based on Chapters 1 & 3
3) The textbook enumerates five sources of risk. If you are investing globally, which of these five sources can be both a risk and a potential benefit? Briefly explain your reasoning.