Busn 233 CH 10

Period Return Stocks
XOM Stock Price Start 2006
$55.10
XOM Stock Price End 2006

Dividend Paid during 2006
Dividend Yield
Capital Gain
Total Return
Total Return
$76.63
$1.28
Brigg's and Straton Stock

Price Start 2006
Price End 2006
Dividend Yield
Capital Gain
Total Return
Total Return
Remember: % Change = End/Beg - 1

Apply General Number Format ==> Ctrl + Shift + ~
$38.79
$26.95
$0.88
Period Return Stocks

XOM Stock Price Start 2006
XOM Stock Price End 2006
Dividend Yield
Capital Gain
Total Return
Total Return
$55.10
$76.63
$1.28
0.02323049
0.3907441016
0.4139745917
0.4139745917

Price Start 2006
Price End 2006
Dividend Yield
Capital Gain
Total Return
Total Return
Remember: % Change = End/Beg - 1

Apply General Number Format ==> Ctrl + Shift + ~
$38.79
$26.95
$0.88
0.0226862593
-0.3052333076
-0.2825470482
-0.2825470482
Returns On Investment For 1 Year (Holding

Period Return)
(Regardless of whether you sell the stock or
not)
Stock Price Time 0 = (Beg) = Pt
$62.00
Stock Price Time 1 = (End) = Pt+1
$68.00
Dividend Paid at Time 1 = Dt+1
$1.00
Capital Gain = Pt+1 - Pt
$6.00
Dollar Returns = Dividend Paid +
Capital Gain
$7.00
% Return = (Dollar Return)/(End
Stock Price)
11.29%
Dividend Yield = Dt+1/Pt
1.61%
Capital Gain Yield = Pt+1/Pt - 1
9.68%
% Return = Dividend Yield +
Capital Gain Yield
11.29%
% Return + 1 = (Dt+1 + Pt+1)/Pt
111.29%
Returns On Investment For 1 Year (Holding
Period Return)
(Regardless of whether you sell the stock or
not)
Stock Price Time 0 = (Beg) = Pt
$62.00
Stock Price Time 1 = (End) = Pt+1
$56.00
Dividend Paid at Time 1 = Dt+1
$2.00
Capital Gain = Pt+1 - Pt
-$6.00
Dollar Returns = Dividend Paid +
Capital Gain
-$4.00
% Return = (Dollar Return)/(End
Stock Price)
-6.45%
Dividend Yield = Dt+1/Pt
3.23%
Capital Gain Yield = Pt+1/Pt - 1
-9.68%
% Return = Dividend Yield +
Capital Gain Yield
-6.45%
% Return + 1 = (Dt+1 + Pt+1)/Pt
93.55%
Period Return Coupon Bond

Face Value
Coupon Rate
Bond P0
Bond P1
n
Interest
Dollar Returns
Nominal Rate Return
Inflation
Real Rate
Real Dollar Return
Total Real Value at End
Check Real Dollar Return
$1,000.00
6.00%
$911.00
$915.00
1
1%
r = (1+R)/(1+h)-1
R = Nominal
h = Inflation
r = Real (change in purchase Power)
chase Power)
Period Return Coupon Bond

Face Value
Coupon Rate
Bond P0
Bond P1
n
Interest
Dollar Returns
Nominal Rate Return
Inflation
Real Rate
Real Dollar Return
$1,000.00
6.00%
$911.00
$915.00
1
$60.00
$64.00
0.0702525
1%
0.0596559
$54.35
$965.35
$54.35
r = (1+R)/(1+h)-1
R = Nominal
h = Inflation
chase Power)
Period Return Zero Bond

Item
P0
YTM Time 1
Years To Maturity at Time 0
Face Value at Maturity
Assume n =
What is Total Return?
P1
Zero Coupon
$
300.00
0.085
15
14
$ 1,000.00 <<== Assume
2 <<== Assume
Nominal Return
Ctrl + Shift + ~
General Number Formatting
Period Return Zero Bond

Item
P0
YTM Time 1
Assume n =
P1
Nominal Return
Ctrl + Shift + ~
Zero Coupon
$
300.00
0.085
15
14
$ 1,000.00 <<== Assume
2 <<== Assume
311.7957692 ($311.80)
0.039319231
General Number Formatting
Period Return Preferred Stock

Type
Preferred Stock
Face Value
$100.00
Stated Dividend
5.00%
P0
$95.00
P1
96
D1
Nominal Return
Ctrl + Shift = ~
General Number Format
Period Return Preferred Stock

Type
Preferred Stock
Face Value
$100.00
Stated Dividend
5.00%
P0
$95.00
P1
96
D1
$5.00
Nominal Return
0.0631578947
Ctrl + Shift = ~
General Number Format
Period Return Less Than 1 Year

Type
Time
P0
P4months
Stock
4 months
$52.25
$53.00
Period Return (4 months)

Months in Year
# periods in 1 year
APR Nominal
EAR
12

Type
Time
P0
P3months
Period Return (32 Days)
Days in Year
# periods in 1 year
APR
EAR
Stock
32 Days
$52.25
$53.00
365

Type
Time
P0
P4months
Stock
4 months
$52.25
$53.00
1.4354%
12
3
4.3062%
4.3683%

Months in Year
# periods in 1 year
APR Nominal
EAR

Type
Time
P0
P3months
Period Return (32 Days)
Days in Year
# periods in 1 year
APR
EAR
Stock
32 Days
$52.25
$53.00
1.4354%
365
11.40625
16.3726%
17.6521%
0.1764713404
Many Periods, Then Average

Year
Period
1
2
3
4
5
6
Price Year End Dividend Year End Period Return

0
65
0
1
70
1
2
75.5
1.05
3
60
1
4
73
1
5
80
1.1
Arithmetic Mean
Geometric Mean
Mean:
Always Higher Than Geomean, unless all past returns are equal
Many Periods, Then Average

Year
Period
1
2
3
4
5
6

0
65
0
1
70
1
0.0923076923
2
75.5
1.05
0.0935714286
3
60
1
-0.1920529801
4
73
1
0.2333333333
5
80
1.1
0.1109589041
Arithmetic Mean
Geometric Mean
0.0676236756
0.0574764363
Mean:
0.067624
Always Higher Than Geomean, unless all past returns are equal
Arithmetic Mean answers the question: "Over a particular number of periods, what was the return for
or what was the return for a typical year?"
Arithmetic Mean = (Sum of Values)/(Count of Values) =
When do you use Arithmetic Mean, when 1) Arithmetic Mean is always bigger than the Geomean and
estimates: Use Arithmetic Mean when you want optimistic results, or the time frame is short (cuz Geo
small). ALSO: If you know the true arithmetic mean (like all the historic returns for a stock), then use
"future wealth values. The problem of course is that we usually only have estimates.
Geometric Mean answers the question: "Over a particular number of periods, what was the average
per year?" Geometric mean tells us: "What you actually earned per year on average, compoun
Geometric Mean = [(1+R1)*(1+R2)*(1+R3)*. . . *\*(1+RT)]^(1/T)
When do you use Geometric Mean, when 1) Arithmetic Mean is always bigger than the Geomean and
estimates: Use Geometric Mean when you want pessimistic results, or the time frame is long (cuz Ari
big)."
Final Note: Short use Arithmetic (1 decade); Medium use difference between two (few decades); Lon
(many decades).
Year
2001
Year
2002
2003
2004
2005
End Value using (1+%)
Geometric Mean using (1+%)*(1+%)
Check:
Arithmetic Mean =
Geometric Mean =
Stock Value Using Arithmetic Mean =
Stock Value Using Geometric Mean =
Stock Value
How Many Years
25.75
Stock Return Return + 1

0.1
0.12
0.03
-0.09
Stock
Value
Geometric mean = true compounding rate
what was the return for an average year,

ar?"
Values) =
than the Geomean and 2) all we have are

frame is short (cuz Geomean probably too
ns for a stock), then use this in forecasting
ally only have estimates."
, what was the average compound return
ar on average, compound annually."
1+RT)]^(1/T) - 1 =

me frame is long (cuz Arithmetic Mean too
two (few decades); Long, use GEOMEAN
Stock Value
Stock Value
Using
Using Arithmetic Geometric
Mean =
Mean =
true compounding rate
Arithmetic Mean answers the question: "Over a particular number of periods, what was the return for
or what was the return for a typical year?"
Arithmetic Mean = (Sum of Values)/(Count of Values) =
When do you use Arithmetic Mean, when 1) Arithmetic Mean is always bigger than the Geomean and
estimates: Use Arithmetic Mean when you want optimistic results, or the time frame is short (cuz Geo
small). ALSO: If you know the true arithmetic mean (like all the historic returns for a stock), then use
"future wealth values. The problem of course is that we usually only have estimates.
Geometric Mean answers the question: "Over a particular number of periods, what was the average
per year?" Geometric mean tells us: "What you actually earned per year on average, compoun
Geometric Mean = [(1+R1)*(1+R2)*(1+R3)*. . . *\*(1+RT)]^(1/T)
When do you use Geometric Mean, when 1) Arithmetic Mean is always bigger than the Geomean and
estimates: Use Geometric Mean when you want pessimistic results, or the time frame is long (cuz Ari
big)."
Final Note: Short use Arithmetic (1 decade); Medium use difference between two (few decades); Lon
(many decades).
Year
Year
Stock Value
How Many Years
2001
25.75
4
Stock Return Return + 1

2002
0.1
2003
0.12
2004
0.03
2005
-0.09

Geometric Mean using (1+%)*(1+%)
Check:
Arithmetic Mean =
Geometric Mean =
Stock Value Using Arithmetic Mean =
Stock Value Using Geometric Mean =
Stock
Value
1.1
$28.33
1.12
$31.72
1.03
$32.68
0.91
$29.73
29.7349052
29.7349052
1.1547536 Geometric mean = true compounding rate
29.7349052
29.7349052
0.040000
0.0366265582
30.12385792
29.7349052
0.0366265582 0.0366266
what was the return for an average year,

ar?"
Values) =

frame is short (cuz Geomean probably too
ns for a stock), then use this in forecasting
ally only have estimates."
, what was the average compound return

ar on average, compound annually."
1+RT)]^(1/T) - 1 =

me frame is long (cuz Arithmetic Mean too
two (few decades); Long, use GEOMEAN
Stock Value
Using Arithmetic
Mean =
$26.78
$27.85
$28.97
$30.12
true compounding rate
Stock Value
Using
Geometric
Mean =
$26.69
$27.67
$28.68
$29.73
% Change =
Years Stock Value
Dividen Paid
End/Beg-1
2000
$98.00
2001
$122.00
$0.85
2002
$115.00
$0.75
2003
$120.00
$0.75
2004
$149.00
$0.85
2005
$175.00
$0.90
2006
$178.00
$0.95
2007
$200.00
$0.95
2008
$189.00
$0.75
Arithmetic Mean
Geomean
Check:
Based on Past Data, What do you think price will be in 2015?

Year
2015
Worth in 2015
Arithmetic Mean (Less Conservative)
Worth in 2015
Geometric Mean (Conservative)
$195.75
% Change =
Years Stock Value
Dividen Paid
End/Beg-1
2000
$98.00
2001
$122.00
$0.85
0.2535714286
2002
$115.00
$0.75
-0.0512295082
2003
$120.00
$0.75
0.05
2004
$149.00
$0.85
0.24875
2005
$175.00
$0.90
0.1805369128
2006
$178.00
$0.95
0.0225714286
2007
$200.00
$0.95
0.1289325843
2008
$189.00
$0.75
-0.05125
Arithmetic Mean
Geomean
0.0977353557
0.0916188076
Check:
Based on Past Data, What do you think price will be in 2015?

Year
2015
Worth in 2015
$363.03 Arithmetic Mean (Less Conservative)
Worth in 2015
$349.11 Geometric Mean (Conservative)
$98.34
Based on Average Returns, which stock do you pre

It is hard to know, without looking at the volitility of past s
Mean
Year
4.1%
4.1%
Stock Return A
Stock Return B
1995
5.0%
2.0%
1996
10.0%
4.0%
1997
12.0%
3.5%
1998
17.0%
5.5%
1999
19.0%
4.0%
2000
1.0%
4.2%
2001
-15.0%
4.3%
2002
-3.0%
4.7%
2003
3.0%
5.0%
2004
5.5%
5.1%
2005
10.0%
3.0%
2006
6.5%
2.9%
2007
-2.0%
4.6%
-0.25
-0.2
-0.15
-0.1
-0.05
0
0
2008
-22.0%
4.9%
2009
15.0%
4.1%
Total
Link to see how to make this chart:
Excel & Statistics 39: Variability Chart - Visual A
ock do you prefer?

tility of past stock returns.
0.1
Stock Return A
Stock Return B
Mean Stock Return A
Mean Stock Return B
-0.05
0.05
0.1
0.15
0.2
0.25
bility Chart - Visual Approach (Dispersion or Spread)
Based on Average Returns, which stock do you p

It is hard to know, without looking at the volitility of past
Count
Mean
Year
Stock Return A
Deviation
1995
5.0%
1996
10.0%
1997
12.0%
1998
17.0%
1999
19.0%
2000
1.0%
2001
-15.0%
2002
-3.0%
2003
3.0%
2004
5.5%
2005
10.0%
2006
6.5%
2007
-2.0%
2008
-22.0%
2009
15.0%
Total
SD = Numerical Measure of Risk of Stock (Volitility)
Deviation ^2
rns, which stock do you prefer?

ng at the volitility of past stock returns.
Stock Return B
Deviation Deviation ^2
2.0%
4.0%
3.5%
5.5%
4.0%
4.2%
4.3%
4.7%
5.0%
5.1%
3.0%
2.9%
4.6%
4.9%
4.1%
-0.25
-0.2
-0.15
-0.1
-0.05
(Total Devaitions^2)/(COUNT-1)
Square root to get back to same unit
0.009450624 STDEV (Standard Deviation for Sample)
0.05
0.1
Stock Return A
Stock Return B
Mean Stock Return A
Mean Stock Return B
0.05
0.1
0.15
0.2
0.25
Based on Average Returns, which stock do you p

It is hard to know, without looking at the volitility of past
Count
Mean
Year
15
4.1%
Stock Return A
Deviation
Deviation ^2
1995
5.0%
0.9%
0.00008
1996
10.0%
5.9%
0.00344
1997
12.0%
7.9%
0.00619
1998
17.0%
12.9%
0.01656
1999
19.0%
14.9%
0.02210
2000
1.0%
-3.1%
0.00098
2001
-15.0%
-19.1%
0.03661
2002
-3.0%
-7.1%
0.00509
2003
3.0%
-1.1%
0.00013
2004
5.5%
1.4%
0.00019
2005
10.0%
5.9%
0.00344
2006
6.5%
2.4%
0.00056
2007
-2.0%
-6.1%
0.00376
2008
-22.0%
-26.1%
0.06830
2009
15.0%
10.9%
0.01181
Total
0.0%
0.17922
SD = Numerical Measure of Risk of Stock (Volitility)
0.0128016667
0.1131444504
0.1131444504
rns, which stock do you prefer?

ng at the volitility of past stock returns.
15
4.1%
Stock Return B
Deviation Deviation ^2
2.0%
-2.1%
0.00046
4.0%
-0.1%
0.00000
3.5%
-0.6%
0.00004
5.5%
1.4%
0.00019
4.0%
-0.1%
0.00000
4.2%
0.1%
0.00000
4.3%
0.2%
0.00000
4.7%
0.6%
0.00003
5.0%
0.9%
0.00008
5.1%
1.0%
0.00009
3.0%
-1.1%
0.00013
2.9%
-1.2%
0.00015
4.6%
0.5%
0.00002
4.9%
0.8%
0.00006
4.1%
0.0%
0.00000
-0.2%
0.00125
-0.25
-0.2
-0.15
-0.1
8.9333E-005 (Total Devaitions^2)/(COUNT-1)

0.009451631 Square root to get back to same unit
0.009450624 STDEV (Standard Deviation for Sample)
-0.05
Mean Stock Return A

Mean Stock Return B
x1
-0.1
-0.05
0.0413333333
0.0412
0.99
0.97
Stock Return A x2
Stock Return B
0.05
1
0.02
0.98
0.1
1
0.04
0.98
0.12
1 0.035
0.98
0.17
1 0.055
0.98
0.19
1
0.04
0.98
0.01
1 0.042
0.98
-0.15
1 0.043
0.98
-0.03
1 0.047
0.98
0.03
1
0.05
0.98
0
0.05
0.1
0.15
0.2
0.25
0.055
1 0.051
0.98
0.1
1
0.03
0.98
0.065
1 0.029
0.98
-0.02
1 0.046
0.98
-0.22
1 0.049
0.98
0.15
1 0.041
0.98
Stock Return A
Stock Return B
Mean Stock Return A
Mean Stock Return B
ck Return A
ck Return B
n Stock Return A
n Stock Return B
Year-to-year total return on Larg

60.00%
40.00%
20.00%
0.00%
-20.00%
-40.00%
-60.00%
Year-to-year total return on Long Ter

60.00%
50.00%
40.00%
30.00%
20.00%
10.00%
0.00%
-10.00%
-20.00%
Year-to-year total return on U

16.00%
14.00%
12.00%
10.00%
8.00%
6.00%
4.00%
2.00%
0.00%
Frequency = # of times a Historical Return For La
Frequency = # of times a Historical Return For La
12
12
-10%0%
0%10%
3
2
1
0
-60%-50%
-50%-40%
-40%-30%
-30%-20%
-20%-10%
Historical Large Company Returns
Mean Large Company Returns
Mean 20 Year Gov Bond Returns
Historical US Treasury Bills

1.01
0.99
0.97
0.95
0.93
0.91
-60.00%
-40.00%
10
20
-20.00%
0.89
0.00%
Arithmetic Mean
11.57%
6.25%
Year-to-year total return on Large CompaYear-to-year total return on Long Term
S&P 500 (total MV)
20 years to
Maturity
Year To Year Returns (Hand typed from tables in te

Year
Large Company
Down Large
Long Term
Stocks
Company Stocks
Government Bonds
1926
11.14%
7.90%
1927
37.13%
10.36%
1928
43.31%
-1.37%
1929
-8.91%
-8.91%
5.23%
1930
-25.26%
-25.26%
5.80%
1931
-43.86%
-43.86%
-8.04%
1932
-8.85%
-8.85%
14.11%
1933
52.88%
0.31%
1934
-2.34%
-2.34%
12.98%
1935
47.22%
5.88%
1936
32.80%
8.22%
1937
-35.26%
-35.26%
-0.13%
1938
33.20%
6.26%
1939
-0.91%
-0.91%
5.71%
1940
-10.08%
-10.08%
10.34%
1941
-11.77%
-11.77%
-8.66%
1942
21.07%
2.67%
1943
25.76%
2.50%
1944
19.69%
2.88%
1945
36.46%
5.17%
1946
-8.18%
-8.18%
4.07%
1947
5.24%
-1.15%
1948
5.10%
2.10%
1949
18.06%
7.02%
1950
30.58%
-1.44%
1951
24.55%
-3.53%
1952
18.50%
1.82%
1953
-1.10%
-1.10%
-0.88%
1954
52.40%
7.89%
1955
31.43%
-1.03%
1956
1957
1958
1959
1960
1961
1962
1963
1964
1965
1966
1967
1968
1969
1970
1971
1972
1973
1974
1975
1976
1977
1978
1979
1980
1981
1982
1983
1984
1985
1986
1987
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
6.63%
-10.85%
43.34%
11.90%
0.48%
26.81%
-8.78%
22.69%
16.36%
12.36%
-10.10%
23.94%
11.00%
-8.47%
3.94%
14.30%
18.99%
-14.69%
-26.47%
37.23%
23.93%
-7.16%
6.57%
18.61%
32.50%
-4.92%
21.55%
22.56%
6.27%
31.73%
18.67%
5.25%
16.61%
31.69%
-3.10%
30.46%
7.62%
10.08%
1.32%
37.58%
22.96%
33.36%
28.58%
21.04%
-9.10%
-11.89%
-22.10%
-10.85%
-8.78%
-10.10%
-8.47%
-14.69%
-26.47%
-7.16%
-4.92%
-3.10%
-9.10%
-11.89%
-22.10%
-3.14%
5.25%
-6.70%
-1.35%
7.74%
3.02%
4.63%
1.37%
4.43%
1.40%
-1.61%
-6.38%
5.33%
-7.45%
12.24%
12.67%
9.15%
-12.66%
-3.28%
4.67%
18.34%
2.31%
-2.07%
-2.76%
-5.91%
-0.16%
49.99%
-2.11%
16.53%
39.03%
32.51%
-8.09%
8.71%
22.15%
5.44%
20.04%
8.09%
22.32%
-11.46%
37.28%
-2.59%
17.70%
19.22%
-12.76%
22.16%
5.30%
14.08%
2003
2004
2005
2006
2007
2008
28.68%
10.88%
4.91%
15.79%
5.49%
-37.00%
-37.00%
1.62%
10.34%
10.35%
0.28%
10.85%
39.46%
tal return on Large Company Stocks
eturn on Long Term Government Bonds
total return on US Treasury Bills
cal Return For Large Company Occurred in Category

16
cal Return For Large Company Occurred in Category
ns
16
13
12
13
12
3
2
-10%0%
0%10%
10%20%
20%30%
30%40%
Mean Large Company Returns
Historical 20 Year Gov Bond Returns
Historical US Treasury Bills
Mean US Treasury Bills
40%50%
50%60%
0
60%70%
1.01
0.99
0.97
0.95
0.93
0.91
0.89
0.00%
20.00%
40.00%
60.00%
ar total return on Long Term
3.86%
3.10%
Year-to-year total return on US Treasury BYear-to-year total return on Small Compa
1 month maturity
CPI
Smallest 20% of
Company on NYSE
(total MV)
ped from tables in textbook)

Down Long Term
Consumer Price
Small Company
Government Bonds US Treasury Bills
Index
Stocks
3.30%
-1.12%
3.15%
-2.26%
-1.37%
4.05%
-1.16%
4.47%
0.58%
2.27%
-6.40%
-8.04%
1.15%
-9.32%
0.88%
-10.27%
0.52%
0.76%
0.27%
1.52%
0.17%
2.99%
0.17%
1.45%
-0.13%
0.27%
2.86%
0.06%
-2.78%
0.04%
0.00%
0.04%
0.71%
-8.66%
0.14%
9.93%
0.34%
9.03%
0.38%
2.96%
0.38%
2.30%
0.38%
2.25%
0.38%
18.13%
-1.15%
0.62%
8.84%
1.06%
2.99%
1.12%
-2.07%
-1.44%
1.22%
5.93%
-3.53%
1.56%
6.00%
1.75%
0.75%
-0.88%
1.87%
0.75%
0.93%
-0.74%
-1.03%
1.80%
0.37%
-3.14%
-6.70%
-1.35%
-1.61%
-6.38%
-7.45%
-12.66%
-3.28%
-2.07%
-2.76%
-5.91%
-0.16%
-2.11%
-8.09%
-11.46%
-2.59%
-12.76%
2.66%
3.28%
1.71%
3.48%
2.81%
2.40%
2.82%
3.23%
3.62%
4.06%
4.94%
4.39%
5.49%
6.90%
6.50%
4.36%
4.23%
7.29%
7.99%
5.87%
5.07%
5.45%
7.64%
10.56%
12.10%
14.60%
10.94%
8.99%
9.90%
7.71%
6.09%
5.88%
6.94%
8.44%
7.69%
5.43%
3.48%
3.03%
4.39%
5.61%
5.14%
5.19%
4.86%
4.80%
5.98%
3.33%
1.61%
2.99%
2.90%
1.76%
1.73%
1.36%
0.67%
1.33%
1.64%
0.97%
1.92%
3.46%
3.04%
4.72%
6.20%
5.57%
3.27%
3.41%
8.71%
12.34%
6.94%
4.86%
6.70%
9.02%
13.29%
12.52%
8.92%
3.83%
3.79%
3.95%
3.80%
1.10%
4.43%
4.42%
4.65%
6.11%
3.06%
2.90%
2.75%
2.67%
2.54%
3.32%
1.70%
1.61%
2.68%
3.39%
1.55%
2.38%
1.03%
1.43%
3.30%
4.97%
4.52%
1.24%
1.88%
3.26%
3.42%
2.54%
4.08%
0.09%
0
60%70%
60.00%
rn on Small Company Stocks
Investment
Large Stocks
Small Stocks
Long-term Corporate Bonds
Long-term Government Bonds
U.S. Treasury Bills = Rf
Inflation = I
Historical Data 1926 - 2008

Historical Average
RH - Rf = Reward For
Return = RH
Risk
11.70%
16.40%
6.20%
6.10%
3.80%
3.10%
Capital Markets History Lesson 1: History tells us that there is a reward (excess return over risk-fr
(risk premium)) for bearing risk. "Risky assets, on average, earn a risk premium".
If Bell Shaped Distributions

Investment
Large Stocks
Small Stocks
Inflation = I
Historical Average
Return = RH
Standard Deviation
(risk)
11.70%
20.60%
16.40%
33.00%
6.20%
8.40%
6.10%
9.40%
3.80%
3.10%
3.10%
4.20%
Capital Markets History Lesson 2: History tells us that The greater the potential reward, the greate
risk; for a given year there is a significant risk of a dramatic change in value.
Real Historical
Rate
r = (1+R)/(1+h)
eward (excess return over risk-free

ge, earn a risk premium".
68% chance that in any

given year the returns will
lie between:
Lower
Upper
the potential reward, the greater the

amatic change in value.
95% chance that in

any given year the
returns will lie
between:
Lower
Upper
Investment
Large Stocks
Small Stocks
Inflation = I
Historical Data 1926 - 2008

Historical Average
RH - Rf = Reward For
Return = RH
Risk
11.70%
7.90%
16.40%
12.60%
6.20%
2.40%
6.10%
2.30%
3.80%
0.00%
3.10%
Capital Markets History Lesson 1: History tells us that there is a reward (excess return over risk-fr
(risk premium)) for bearing risk. "Risky assets, on average, earn a risk premium".
If Bell Shaped Distributions

Investment
Large Stocks
Small Stocks
Inflation = I
Historical Average
Return = RH
Standard Deviation
(risk)
11.70%
20.60%
16.40%
33.00%
6.20%
8.40%
6.10%
9.40%
3.80%
3.10%
3.10%
4.20%
Capital Markets History Lesson 2: History tells us that The greater the potential reward, the greate
risk; for a given year there is a significant risk of a dramatic change in value.
Real Historical
Rate
r = (1+R)/(1+h)
8.34%
20.60%
12.90%
33.00%
3.01%
8.40%
2.91%
9.40%
0.68%
3.10%
4.20%
eward (excess return over risk-free

ge, earn a risk premium".
68% chance that in any

given year the returns will
lie between:
Lower
95% chance that in

any given year the
returns will lie
between:
Upper
Lower
Upper
-8.90%
32.30% -29.500% 52.900%
-16.60%
49.40% -49.600% 82.400%
-2.20%
14.60% -10.600% 23.000%
-3.30%
15.50% -12.700% 24.900%
0.70%
6.90% -2.400% 10.000%
-1.10%
7.30% -5.300% 11.500%
the potential reward, the greater the

amatic change in value.
Year
US Treasury
Consumer Price Real Rate r =
Bills (Rf)
Index (h)
(1+R)/(1+h)-1
1926
3.30%
-1.12%
1927
3.15%
-2.26%
1928
4.05%
-1.16%
1929
4.47%
0.58%
1930
2.27%
-6.40%
1931
1.15%
-9.32%
1932
0.88%
-10.27%
Mean
Purchasing Power Went Up a lot if you invested in T-bills because Inflation was negative (Deflation)
R = Nominal
h = Inflation
s negative (Deflation).
Year
Mean
US Treasury
Bills (Rf)
Index (h)
(1+R)/(1+h)-1
1926
3.30%
-1.12%
0.0447006472
1927
3.15%
-2.26%
0.055350931
1928
4.05%
-1.16%
0.0527114529
1929
4.47%
0.58%
0.038675681
1930
2.27%
-6.40%
0.0926282051
1931
1.15%
-9.32%
0.1154609616
1932
0.88%
-10.27%
0.1242616739
2.75%
0.074827079
R = Nominal
h = Inflation
Year
US Treasury Bills Consumer Price Index

1973
7.29%
8.71%
1974
7.99%
12.34%
1975
5.87%
6.94%
1976
5.07%
4.86%
1977
5.45%
6.70%
1978
7.64%
9.02%
1979
10.56%
13.29%
1980
12.10%
12.52%
Arithmetic Mean
T-Bills may be considered Nominal Risk Free, but there is still a risk that
the real return could be negative. When Inflation is high, there is still risk
in the risk free rate because if inflation is higher than the T-Bill rate, you
can loose purchasing power. Default and interest rate risk are low, but
inflation risk can be high.
Real Return - Change In

Purchasing Power (Can Be
Negative)
nal Risk Free, but there is still a risk that

e. When Inflation is high, there is still risk
nflation is higher than the T-Bill rate, you
efault and interest rate risk are low, but
risk can be high.
Year

1973
7.29%
8.71%
1974
7.99%
12.34%
1975
5.87%
6.94%
1976
5.07%
4.86%
1977
5.45%
6.70%
1978
7.64%
9.02%
1979
10.56%
13.29%
1980
12.10%
12.52%
Arithmetic Mean
7.75%
T-Bills may be considered Nominal Risk Free, but there is still a risk that
the real return could be negative. When Inflation is high, there is still risk
in the risk free rate because if inflation is higher than the T-Bill rate, you
can loose purchasing power. Default and interest rate risk are low, but

Negative)
-0.0130622758
-0.0387217376
-0.0100056106
0.0020026702
-0.011715089
-0.0126582278
-0.024097449
-0.0037326697
-1.40%
nal Risk Free, but there is still a risk that

risk can be high.
How to calculate the Real Average Return for a stock

Year
1
2
3
4
5
Arithmetic Mean
Mean Inflation over period
Mean T-Bill Rate over period

Average Nominal Risk Premium
Average Real Return on Stock
Average Real Risk-Free Rate
Average Real Risk Premium
Return
-0.09
0.15
0.09
-0.05
0.17
Calculate Average for stock
0.02000
0.03500
Tresury Bills (1 month) Considered Risk-free because

raise taxes to pay & because it is such a short time
r = (1+R)/(1+h)-1 Calculate Real return for stock by

r = (1+R)/(1+h)-1 Calculate Real risk-free rate by div
R - Rf
Calculate average change in purc
R = Nominal
h = Inflation
red Risk-free because gov. can

it is such a short time period
al return for stock by dividing by inflation

al risk-free rate by div Treasury Bill Rate by Inflation
erage change in purchase power by taking real return - real risk free.
How to calculate the Real Average Return for a stock

Year
1
2
3
4
5
Arithmetic Mean
Mean Inflation over period
Mean T-Bill Rate over period

Average Real Return on Stock
Average Real Risk-Free Rate
Return
-0.09
0.15
0.09
-0.05
0.17
0.054 Calculate Average for stock
0.02000
Tresury Bills (1 month) Considered Risk-free becau

0.03500 raise taxes to pay & because it is such a short ti
0.01900
0.033333 r = (1+R)/(1+h)-1 Calculate Real return for stock
0.014706 r = (1+R)/(1+h)-1 Calculate Real risk-free rate by
0.018627 R - Rf
Calculate average change in pu
R = Nominal
h = Inflation
h) Considered Risk-free because gov. can

& because it is such a short time period
alculate Real return for stock by dividing by inflation

alculate Real risk-free rate by div Treasury Bill Rate by Inflation
alculate average change in purchase power by taking real return - real risk free.
urchase Power)
Year
Arithmetic Mean
Geometric Mean
SD - Standard Deviation (volatility - risk)
Large
Long Term
Company
Government
Stocks
Bonds
1997
0.3336
0.177
1998
0.2858
0.1922
1999
0.2104
-0.1276
2000
-0.091
0.2216
2001
-0.1189
0.053
US Treasury
Bills
0.0519
0.0486
0.048
0.0598
0.0333
Typical value for an average year. Greater
than geometric mean.
On average, what you actually earned per
year - true average rate. Less than
Arithmetic mean.
Numerical Measure of the volatility of stock
returns - risk - average of deviations.
Year
Large
Long Term
Company
Government
Stocks
Bonds
1997
0.3336
0.177
1998
0.2858
0.1922
1999
0.2104
-0.1276
2000
-0.091
0.2216
2001
-0.1189
0.053
Arithmetic Mean
0.12398
0.10324
Geometric Mean
0.10699
0.09506

Lesson 1: Risky assets, on average, earn a risk premium
(reward for risk)
Lesson 2: The greater the potential reward from a risky
investment, the greater the risk - as measured in SD
0.213776617 0.144200097
0.07566
0.05492
0.213776617 0.144200097
Ratio Analysis==> return/risk = (amount return)/(1 unit

of risk), where 1 = 1% return
0.579951174 0.715949587
Ratio Analysis==> risk/return, where 1 = 1% return
1.724283086 1.396746388
US Treasury
Bills
0.0519
0.0486
0.048
0.0598
0.0333
Risk Premium Large Risk Premium Long Term

Company Stocks
Government Bonds
0.2817
0.1251
0.2339
0.1403
0.1585
-0.1795
-0.1429
0.1697
-0.1708
0.0011
Typical value for an average year. Greater
0.04832
than geometric mean.
On average, what you actually earned per
year - true average rate. Less than
0.04828
Arithmetic mean.
Numerical Measure of the volatility of stock

0.009622733
returns - risk - average of deviations.
0.009622733
5.021442192
0.199145975
1
2
3
4
5
4
5
Because the future is unknown.
Because the future is unknown. But really, for this question, the real answer is that markets are ine
information about the housing crisis should have convinced almost everyone, that this stock was d
2008.
No, the people that hold mostly bonds as opposed to stocks, do so because they have looked at his
volatile than bond returns (more risky) and because they want to invest in safer (less risky) assets,
risk averse, and the extra possible return doesnt attract them relative to the extra risk.
This would be a characteristic if markets were efficient. In the short run markets can be very ineffic
heating (bubbles) or crashing (after bubbles), positive NPV investments can be found (shorting ass
crashes). However, during more normal times (not bubble or crash), positive NPV investments are
individuals and firms and because new information is assimilated into financial asset prices (where
It is a normal market. People do this all the time. This is called Technical Analysis.
1 P0
D1
P1
$83.00
$1.40
$96.00
Dividend Yield
Cap Gain Yield
Period Return
Period Return
2 P0
D1
P1
Dividend Yield
Cap Gain Yield
Period Return
Period Return
3 # Shares
P0
D1
P1
Dividend Yield
Cap Gain Yield
Period Return
Dollar Return
$83.00
$1.40
$71.00
$250.00
$75.13
$0.85
$81.64
1 P0
D1
P1
Dividend Yield
Cap Gain Yield
Period Return
Period Return
2 P0
D1
P1
Dividend Yield
Cap Gain Yield
Period Return
Period Return
$83.00
$1.40
$96.00
0.016867
0.156627
0.173494
0.173494
$83.00
$1.40
$71.00
0.016867
-0.144578
-0.127711
-0.127711
3 # Shares
P0
D1
P1
Dividend Yield
Cap Gain Yield
Period Return
Dollar Return
$250.00
$75.13
$0.85
$81.64
0.0113137
0.0866498
0.0979635
$1,840.00
Face Value
Coupon Rate
Bond P0
Bond P1
a
b
c
n
Interest
Dollar Returns
Nominal Rate Return
Inflation
Real Rate
Real Dollar Return
1000
7.00%
$893.00
$918.00
1
4%
r = (1+R)/(1+h)-1
R = Nominal
h = Inflation
ange in purchase Power)
Face Value
Coupon Rate
Bond P0
Bond P1
a
b
c
n
Interest
Dollar Returns
Nominal Rate Return
Inflation
Real Rate
Real Dollar Return
1000
7.00%
$893.00
$918.00
1
$70.00
$95.00
0.106383
4%
0.06383
$57.00
$950.00
$57.00
r = (1+R)/(1+h)-1
R = Nominal
h = Inflation
ange in purchase Power)
Year
1
2
3
4
5
Arithmetic Mean
Geo Mean
Variance
Standard Deviation
X Returns Y Returns
21%
24%
-16%
-3%
9%
26%
18%
-13%
4%
30%
Year
1
2
3
4
5
Arithmetic Mean
Geo Mean
Variance
Standard Deviation
X Returns Y Returns
21%
24%
-16%
-3%
9%
26%
18%
-13%
4%
30%
7.20%
12.80% Average for a "typical" year. Always bigger than Geome
6.34%
11.38% True compounding average - what you actually earned
0.02147
0.03777
0.1465264 0.1943451 Measure of risk in stock - variability in past returns.
ys bigger than Geomean, unless all returns equal.

you actually earned per year, on average.
ty in past returns.
Year
Large
Company
Stocks
1973
-14.69%
1974
-26.47%
1975
37.23%
1976
23.93%
1977
-7.16%
1978
6.57%
Arithmetic Mean (overestimates)
b
c
Geometric Mean (actual average compound return)

Risk Premium
Long Term
Government US Treasury
Bonds
Bills
-12.66%
7.29%
-3.28%
7.99%
4.67%
5.87%
18.34%
5.07%
2.31%
5.45%
-2.07%
7.64%
Year
Large
Long Term
Company Governme
Stocks
nt Bonds
1973 -14.69% -12.66%
1974 -26.47%
-3.28%
1975
37.23%
4.67%
1976
23.93%
18.34%
1977
-7.16%
2.31%
1978
6.57%
-2.07%
3.24%
1.22%
Arithmetic Mean (overestimates)
b
c
Geometric Mean (actual average compound return)

Risk Premium
Risk Premium can not be negative before because

no one would take the investment. But after, sure,
because it means we guessed wrong with our stock
pick.
0.90%
24.11%
-3.32%
0.79%
10.29%
-5.33%
US
Treasury
Bills
7.29%
7.99%
5.87%
5.07%
5.45%
7.64%
6.55% Average for a "typical" year. Always bigger than Geomean, unless all returns equal.
6.55% True compounding average - what you actually earned per year, on average.
1.24% Measure of risk in stock - variability in past returns.
0.00% R - Rf
l returns equal.
Year
1
2
3
4
5
9a
9b
10a
10b
11a
11b
Arithmetic Mean
Geo Mean
Standard Deviation
Average Inflation
T-Bill Rate
Average Real Return
Average Real Risk Free Rate
Historical Return
-0.24
0.13
0.29
0.02
0.21
3.2%
4.3%
Year
1
2
3
4
5
9a
9b
10a
10b
11a
11b
Arithmetic Mean
Geo Mean
Standard Deviation
Average Inflation
T-Bill Rate
Average Real Return
Average Real Risk Free Rate
Historical Return
-0.24
0.13
0.29
0.02
0.21
8.2%
6.5%
20.6%
3.2%
4.3%
4.84% r = (1+R)/(1+h)-1 = (1+Nominal)/(1+inflat
3.90% R - Rf
0.0106589147 r = (1+Rf)/(1+h)-1 = (1+Nominal)/(1+inflat
3.78% R (real) - Rf (real) = Real Risk Premium
R = Nominal
h = Inflation
Check
0.20584
(1+Nominal)/(1+inflation)-1
= (1+Nominal)/(1+inflation)-1
Real Risk Premium
purchase Power)
Return/Risk
Risk/Return
0.3983681606
3.1879468447
Item
P0
YTM Time 1
Assume n =
P1
Nominal Return
Zero Coupon
$
275.83
0.09
15
14
$ 1,000.00 <<== Assume
2 <<== Assume
Item
P0
YTM Time 1
Assume n =
P1
Nominal Return
Zero Coupon
$
275.83
0.09
15
14
$ 1,000.00 <<== Assume
2 <<== Assume
291.5706919
0.057066642
Type
Preferred Stock
Face Value
$100.00 <<== Assumed Stated Value
Stated Dividend
5.50%
P0
$92.18
P1
94.17
D1
Nominal Return
Type
Preferred Stock
Face Value
$100.00 <<== Assumed Stated Value
Stated Dividend
5.50%
P0
$92.18
P1
94.17
D1
$5.50
Nominal Return
0.0812540681
Type
Time
P0
P3months
Months in Year
# periods in 1 year
APR
EAR
Stock
3 months
$73.82
76.09
12
4
Type
Time
P0
P3months
Months in Year
# periods in 1 year
APR
EAR
Stock
3 months
$73.82
76.09
3.0750%
12
4
12.3002%
12.8793%
Year
US Treasury
Bills (Rf)
Index (h)
(1+R)/(1+h)
1926
3.30%
-1.12%
1927
3.15%
-2.26%
1928
4.05%
-1.16%
1929
4.47%
0.58%
1930
2.27%
-6.40%
1931
1.15%
-9.32%
1932
0.88%
-10.27%
Mean
R = Nominal
h = Inflation
Year
US Treasury
Bills (Rf)
Index (h)
(1+R)/(1+h)
1926
3.30%
-1.12%
0.0447006472
1927
3.15%
-2.26%
0.055350931
1928
4.05%
-1.16%
0.0527114529
1929
4.47%
0.58%
0.038675681
1930
2.27%
-6.40%
0.0926282051
1931
1.15%
-9.32%
0.1154609616
1932
0.88%
-10.27%
0.1242616739
Mean
0.074827079
R = Nominal
h = Inflation
If bell shaped Distributions

Investment
Large Stocks
Small Stocks
Inflation = I
Historical Average
Return = RH
Standard Deviation
(risk)
11.70%
20.60%
16.40%
33.00%
6.20%
8.40%
6.10%
9.40%
3.80%
3.10%
3.10%
4.20%
68% chance that in any given year

the returns will lie between:
Lower
Upper

Lower
Upper
18
17

Investment
Large Stocks
Small Stocks
Inflation = I
Historical Average
Return = RH
Standard Deviation
(risk)
11.70%
20.60%
16.40%
33.00%
6.20%
8.40%
6.10%
9.40%
3.80%
3.10%
3.10%
4.20%

Lower
Upper
-8.90%
-16.60%
-2.20%
-3.30%
0.70%
-1.10%

Lower
32.30%
49.40%
14.60%
15.50%
6.90%
7.30%
Upper
-29.500%
-49.600%
-10.600%
-12.700%
-2.400%
-5.300%
52.900%
82.400%
23.000%
24.900%
10.000%
11.500%
18
17
Year
1
2
3
4
5
Mean
Returns
0.12
-0.21
0.27
0.18
0.072
Year
1
2
3
4
5
Mean
Returns
0.12
-0.21
0.27
0.18
0.14 <== Answer using Goal Seek
0.1
Goal Seek on Mean set to .10 and find 5th input

STDEV
0.18262
Year
1
2
3
4
5
Mean
Returns
0.12
-0.21
0.27
0.18
0.072
Year
1
2
3
4
5
Mean
Returns
0.12
-0.21
0.27
0.18
0.14 <== Answer using Goal Seek
0.1
Goal Seek on Mean set to .10 and find 5th input

STDEV
0.18262
Year
Period
1
2
3
4
5
6
0
1
2
3
4
5

64.18
0
71.05
0.57
76.85
0.62
63.12
0.68
72.81
0.77
78.25
0.84
Arithmetic Mean
Geometric Mean
Year
Period
1
2
3
4
5
6
0
1
2
3
4
5

64.18
0
71.05
0.57
0.1159239639
76.85
0.62
0.0903589022
63.12
0.68
-0.1698113208
72.81
0.77
0.1657160963
78.25
0.84
0.0862518885
Arithmetic Mean
Geometric Mean
Checl P0
0.057687906
0.0504632042
$64.16
Year
a
b

1973
7.29%
8.71%
1974
7.99%
12.34%
1975
5.87%
6.94%
1976
5.07%
4.86%
1977
5.45%
6.70%
1978
7.64%
9.02%
1979
10.56%
13.29%
1980
12.10%
12.52%
Arithmetic Mean
SD
d

Negative)
Year
a
b

1973
7.29%
8.71%
1974
7.99%
12.34%
1975
5.87%
6.94%
1976
5.07%
4.86%
1977
5.45%
6.70%
1978
7.64%
9.02%
1979
10.56%
13.29%
1980
12.10%
12.52%
Arithmetic Mean
7.75%
9.30%
SD
2.48%
3.12%
T-Bills may be considered Nominal Risk Free, nut there is still a risk
the real return could be negative. When Inflation is high, there is stil
in the risk free rate because if inflation is higher than the T-Bill rate,
can loose purchasing power. Default and interest rate risk are low,
The statement that T-bills have no risk refers to the fact that there is
an extremely small chance of the government defaulting, so there is
default risk. Since T-bills are short term, there is also very limited int
rate risk. However, as this example shows, there is inflation risk, i.e
purchasing power of the investment can actually decline over time e
the investor is earning a positive nominal return.

Negative)
-0.0130622758
-0.0387217376
-0.0100056106
0.0020026702
-0.011715089
-0.0126582278
-0.024097449
-0.0037326697
-1.40% c
1.25%
nal Risk Free, nut there is still a risk that

risk can be high.
no risk refers to the fact that there is only

e government defaulting, so there is little
rt term, there is also very limited interest
mple shows, there is inflation risk, i.e. the
ent can actually decline over time even if
ng a positive nominal return.
Face
Coupon
P0
n
Years To Maturity Time 1
P1
YTM Time 1
Inflation
Nominal Return
Real Return
1000
0.08
1045.3
1
9
0.075
0.035
r = (1+R)/(1+h)-1
R = Nominal
h = Inflation
Face
Coupon
P0
n
Years To Maturity Time 1
P1
YTM Time 1
Inflation
Nominal Return
Real Return
1000
0.08
1045.3
1
9
($1,031.89)
0.075
0.035
0.0637084427
0.0277376258 r = (1+R)/(1+h)-1
R = Nominal
h = Inflation

Investment
Large Stocks
Small Stocks
Inflation = I
Cumulative Probability
27
28a
28a
28b
28b
28c
28c
0.2850
0.3255
0.2302
0.0228
0.1101
0.1083
0.0146
Historical Average
Return = RH
Standard
Deviation (risk)
11.70%
20.60%
16.40%
33.00%
6.20%
8.40%
6.10%
9.40%
3.80%
3.10%
3.10%
4.20%
X = Return = 0%
0.00% P(x
10.00% P(x
0.00% P(x
10.00% P(x
0.00% P(x
-4.18% P(x
10.56% P(x
= 0.00%)
>= 10.00%)
<= 0.00%)
>= 10.00%)
<= 0.00%)
<= -4.18%)
>= 10.56%)
Large Stocks

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Period Return Stocks

XOM Stock Price Start 2006

XOM Stock Price End 2006

Brigg's and Straton Stock

Remember: % Change = End/Beg - 1

Period Return Stocks

Brigg's and Straton Stock

Remember: % Change = End/Beg - 1

Returns On Investment For 1 Year (Holding

Period Return Coupon Bond

Period Return Coupon Bond

Period Return Zero Bond

General Number Formatting

Period Return Zero Bond

Period Return Preferred Stock

General Number Format

Period Return Preferred Stock

General Number Format

Period Return Less Than 1 Year

Period Return (4 months)

Period Return Less Than 1 Year

Period Return Less Than 1 Year

Period Return (4 months)

Period Return Less Than 1 Year

Many Periods, Then Average

Price Year End Dividend Year End Period Return

Many Periods, Then Average

Price Year End Dividend Year End Period Return

Stock Return Return + 1

Geometric mean = true compounding rate

what was the return for an average year,

than the Geomean and 2) all we have are

than the Geomean and 2) all we have are

true compounding rate

Stock Return Return + 1

End Value using (1+%)

what was the return for an average year,

than the Geomean and 2) all we have are

, what was the average compound return

than the Geomean and 2) all we have are

true compounding rate

Based on Past Data, What do you think price will be in 2015?

Based on Past Data, What do you think price will be in 2015?

Based on Average Returns, which stock do you pre

ock do you prefer?

bility Chart - Visual Approach (Dispersion or Spread)

Based on Average Returns, which stock do you p

SD = Numerical Measure of Risk of Stock (Volitility)

rns, which stock do you prefer?

Based on Average Returns, which stock do you p

SD = Numerical Measure of Risk of Stock (Volitility)

rns, which stock do you prefer?

8.9333E-005 (Total Devaitions^2)/(COUNT-1)

Mean Stock Return A

Year-to-year total return on Larg

Year-to-year total return on Long Ter

Year-to-year total return on U

Frequency = # of times a Historical Return For La

Frequency = # of times a Historical Return For La

Historical Large Company Returns

Mean Large Company Returns

Mean 20 Year Gov Bond Returns

Historical US Treasury Bills