A portfolio manager eliminates the systematic risk of his stock portfolio over the next month using futures on the S&P 500 index. What return does the manager expect on the hedged portfolio over the next month?
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Risk and return
Before understanding the concept of Risk and Return in Financial Management, understanding the two-concept Risk and return individually is necessary.
Capital Asset Pricing Model
Capital asset pricing model, also known as CAPM, shows the relationship between the expected return of the investment and the market at risk. This concept is basically used particularly in the case of stocks or shares. It is also used across finance for pricing assets that have higher risk identity and for evaluating the expected returns for the assets given the risk of those assets and also the cost of capital.
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- Explain how a portfolio manager can eliminate the systematic risk of his stock portfolio over the next month using futures on the S&P 500 index.What position in the S&P 500 futures should the manager take if he wants to reduce (rather than eliminate) the systematic risk of his stock portfolio by, e.g., 20% over the next month?A fund manager owns a portfolio of 10 stocks. Explain how the manager can reduce the systematic risk of his portfolio by 10% over the next year using futures. Will the expected return on the manager’s portfolio also drop by 10%? Is it possible for the manager to perfectly hedge his exposure to equity risk? Explain your answers.
- Determine how a portfolio manager might use financial futures to hedge risk in each of the following circumstances:a. You own a large position in a relatively illiquid bond that you want to sell.b. You have a large gain on one of your Treasuries and want to sell it, but you would like to defer the gain until the next tax year.c. You will receive your annual bonus next month that you hope to invest in long-term corporate bonds. You believe that bonds today are selling at quite attractive yields, and you are concerned that bond prices will rise over the next few weeks.8. An investor currently owns a portfolio of stocks and expects that the stock market to fall next quarter. How does the investor hedge risk without selling the portfolio?A. If a stock costs $55 one month and drops to $45 the next month, what is the expected stock price the next month, if we assume the stock follows a random walk? B. Explain both technical and fundamental analysis and what form of the efficient market hypothesis corresponds to each.
- How might a portfolio manager use financial futures to hedge risk in each of the followingcircumstances:a. You own a large position in a relatively illiquid bond that you want to sell.b. You have a large gain on one of your Treasuries and want to sell it, but you would like todefer the gain until the next tax year.c. You will receive your annual bonus next month that you hope to invest in long-term corporate bonds. You believe that bonds today are selling at quite attractive yields, and you areconcerned that bond prices will rise over the next few weeks.Here are the returns on two stocks. Digital Executive Cheese Fruit January February +14 +7 -3 +1 March +5 +4 April May +7 +12 -4 +2 June +3 +7 July August -8 Required: a-1. Calculate the variance and standard deviation of each stock. a-2. Which stock is riskier if held on its own? b. Now calculate the returns in each month of a portfolio that invests an equal amount each month in the two stocks. c. Is the variance more or less than halfway between the variance of the two individual stocks?You have observed the following returns over time: Stock X Stock Y Year Price Div Price Div Market Returns 2005 20 0 11 0 0 2006 24 1.2 13 1.6 0.25 2007 26 0.5 17 0.5 0.18 2008 31 1 20 0.9 0.11 2009 33 1.5 23 1.2 0.12 2010 40 2 27 1.5 0.15 Compute the portfolio return and portfolio risk if the Stock A and Stock B are combined equally in a portfolio.
- 1) How might a portfolio manager use financial futures to hedge risk in each of the following circumstances:a. You own a large position in a relatively illiquid bond that you want to sell.b. You have a large gain on one of your Treasuries and want to sell it, but you would like to defer the gain until the next tax year.c. You will receive your annual bonus next month that you hope to invest in long-term corporate bonds. You believe that bonds today are selling at quite attractive yields, and you are concerned that bond prices will rise over the next few weeks. ------------------------------------------------------------------------- 2) The S&P portfolio pays a dividend yield of 1% annually. Its current value is 1,300. The T-bill rate is 4%. Suppose the S&P futures price for delivery in 1 year is 1,330. I know that the value of future contract is $1,339, which is priced at $1,330, the contract is under priced by $9. Because, Value of future contract = Current Value x (1 + Risk…Consider a portfolio manager with a $20,500,000 equity portfolio under management. The manager wishes to hedge against a decline in share values using stock index futures. Currently a stock index future is priced at 1250 and has a multiplier of 250. The portfolio beta is 1.25. Calculate the number of contract required to hedge the risk exposure and indicate whether the manager should be short or long. 82 contracts long. 100 contract short. 82 contracts short. 100 contracts long.This example is part of "Hedged Portfolios" to minimize risk. Assume you have $9000 to invest; A stock is trading at $90.00. A call option that expires in one year with a strike price of $90.00 is trading at $10.00. What is your portfolio's 1-year return if you invest in "Only Stocks" and the the stock price after one year is $48.00? Enter your answer in the following format: + or - 0.1234 Hint: Answer is between -0.4212 and -0.5042 ___________? ANSWER IN TYPING