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Topic 27: Investment Returns

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Topic 27: Investment Returns Arithmetic average: sum/n Geometric mean: Less than arithmetic as it factors in compounding As standard deviation increases, geometric ... – PowerPoint PPT presentation

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Title: Topic 27: Investment Returns


1
Topic 27 Investment Returns
  • Arithmetic average sum/n
  • Geometric mean
  • Less than arithmetic as it factors in compounding
  • As standard deviation increases, geometric
    becomes larger than arithmetic
  • If no standard deviation, they are same
  • Steps
  • Multiply all returns /-1, calculate PV of result
  • Time weighted evaluate portfolio manager
  • Ignores cash flows in/out of portfolio by
    investors
  • Includes capital gains, and dividends received by
    portfolio
  • Same calculation as geometric mean

2
Topic 27 Investment Returns
  • Dollar weighted evaluate investors performance
  • Factors cash flows in/out of portfolio
  • IRR calculation
  • Underperformance by mutual fund investors
  • More frequent/pronounced in volatile funds
  • Holding period (capital gain/loss)dividend or
    interest/original investment
  • Can also factor in taxes and transaction costs

3
Topic 27 Investment Returns
  • Real return Nominal return Inflation rate
  • Nominal 13 Inflation 3
  • I ((1Nominal)/(1Inflation))-1
  • Also referred to as serial
  • Assumes nominal rate not compouded
  • If it is, real return nominal inflation
  • Internal Rate of Return, NPV
  • Present value of -0-
  • If IRRgtrequired return, present value positive
  • Assumes cash flows reinvested at IRR
  • Favors projects generating cash flows early

4
Topic 27 Investment Returns
  • Total return(capital gain dividend)/investment
  • YTM return on bonds
  • Compute using semi-annual periods for zero coupon
    bonds
  • Yield to call assumes bond is called in YTM
    calculation
  • Current yield annual income/current price
  • After-tax dividends currently taxed at 15
  • Taxable equivalent yield (munis)
  • tax-free yield/(1- tax rate)
  • After-tax rate of return
  • Taxable return x (1 tax rate)
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