Mid Term Exam: FInance

Corporate Finance provide skills needed to

identify corporate strategies and projects that add value to firm
forecast the funding requirements of their company, devise strategies

agency problem

managers may act on their own interest and not on owners (stockholder)

corporate governance

is the set of rules that control a company's behavior

primary objective

shareholder wealth maximization, maximizes fundamental stock price

employment growth is

higher in firms that try to maximize stock price

employment goes up in

firm that make managers into owners, owned by government but sold to private investors

intrinsic value is

sum of all future expected free cash flows

tick marks at ends of periods

so Time 0 is today, Time 1 is end of period 1

types of cash flows

single
multiple Equal
multiple unequal

multiple equal cash flow

finite (annuity)
Infinite (perpetuity)

Multiple unequal

finite
infinite

as an investor and based on your understanding of risk

s&P companies that are considered riskier than the others will have a higher expected rate of return than the others

if you invest $100,000 in 40 stocks, 20 bonds, and a CD. What kind of risk will be exposed to?

portfolio risk

generally, investors would prefer to invest in assets that have

a low level of risk and high expected return

un systematic risk

type of risk associated with how a firm is finances

systematic

type of risk relates to fluctuations in exchange rates

standard deviation

measure of the variability of a set of outcomes

risk aversion

concept based around the idea that investors require higher rates of return as risk increases

expected rate of return on a porfolio

Rate of return *size percentage

standard deviation of historic return

Variance = sum of squared amounts/n-1
Variance^1/2

coefficient of variation

standard deviation/expected return

portofilio risk is NOT

weighted average. you have to take relationships into consideration

because of the effects of diversification, the risk is likely

to be smaller than the average of all stock standard deviations

portofolio risk will decline

if more stocks that are negatively correlated with other stocks are added to porfolio

market risk of portfolio can be reduced by

hedging, investing in different markets smartly

unsystematic risk component of the total portfolio risk can

be reduced by adding negatively correlated stocks to portfolio

Stock A beta is 1, this mens

stock moves in same direction and magnitude as market

beta coefficient o stock i

(stock i deviation /market standard deviation)*correlation

portfolio beta

investment/value of portfolio*beta of each stock

required return

risk free rate +Market risk(beta)

portfolio require return points

old rate of return-new rate of rreturn

switch higher beta then portoflio beta

increase, and require return increase

on charts

Risk Free is y intercept
Market Risk Premium: slope
stock beta, horizontal coordinate
rate of return y coordinate

what kind of stock is most affected by changes in risk aversion?

high beta stocks

Fama And French Three Factor Mode

A factor model that expands on the capital asset pricing model (CAPM) by adding size and value factors in addition to the market risk factor in CAPM. This model considers the fact that value and small cap stocks outperform markets on a regular basis. By i

calculating required return with french three facotr

Risk free rate+agc+bgc(required market -risk free)+Cgc(Risk for small stock)_Dgc(risk premium for value stocks)

Capital Asset pricing model

realized return on any stock is the sum of the market risk free rate and the market premium multiplied by the sensitivity of the stock to the return

fama french three factor

uses market risk, company size and company book to market value to estimate required return on security

the model maintains that the only risk rewarded in the market with additional return is systematic or nondiversifiable risk

capital asset pricing model

academics use this more than real managers

french three factor model