Risk Management

InvestorsAlaleh Mani2013

Some Definition1. HPR: Holding Period Return(Stock Value 2- Stock Value 1 + Dividend )/ stock value 1HPR is uncertain risk is aroused2. Perfect Market: 1. Information 2. No transaction cost3. Not levied taxes4. No buying and selling restriction5. Transaction has no effect on prices

Normal Probability DistributionIf return follows a normal distribution, the risk is the expected return, variance, and standard deviation.

Standardized return= (mean return-target return)

standard deviation of returns

Covariance/Correlation effect Corr AB=

covariance(RA

,RB

)

σAσB

Markowits: Var portfolio< weighted average of individual variance

Markowitz Efficient Frontier

Risk return trade off

Markowitz Efficient Frontier with risk free rate P= point of tangency =market portfolio X=CML R1 = risk free rate

SML diversifiable risk= that part of the risk that

has no correlation with market volatility

Systematic risk= positive covariance of a risky asset with market

SML is the relationship between risk and expected return

E(Ri) = Rf + βi [ E(Rm) - Rf ]