Tutorial Two

Risk and Return of a Single Asset

Return

• Return is the total gain or loss experienced on an investment over a given

period of time; calculated by dividing the asset’s cash distributions during
the period, plus change in value, by its beginning of period investment
value.

𝐂+(𝐏𝐓 −𝐏𝐓−𝟏 )
r=
𝐏𝐓−𝟏
Where:
r: Actual or required rate of return.
C: Cash flow received from an investment in an asset.
𝐏𝐓 : New price of an asset.
𝐏𝐓−𝟏 : Old price of an asset.

Expected return.
Expected return = Mean = Average

∑𝐫
𝐫̅ =
𝐧

If the probability given:

𝐫̅ = ∑ 𝐫 ∗ 𝐏𝐫
 Risk

• Risk is a measure of the uncertainty surrounding the return that an

investment will earn or, more formally, the variability of returns associated
with a given asset.

• Scenario analysis is an approach for assessing risk that uses several

possible alternative outcomes (scenarios) to obtain a sense of the variability
among returns. One common method involves considering pessimistic
(worst), most likely (expected), and optimistic (best) outcomes and the
returns associated with them for a given asset.

Risk Measurements

- Range: is a measure of an asset’s risk, which is found by subtracting the

return associated with the pessimistic (worst) outcome from the return
associated with the optimistic (best) outcome.

- Standard deviation: is the most common statistical indicator of an asset’s

risk; it measures the dispersion around the expected value.

Standard deviation is the square root of Variance.

∑(𝒓−𝒓̅)𝟐
σ=√
𝒏−𝟏

If probability is given:

σ = √∑(𝐫 − 𝐫̅ )𝟐 ∗ 𝐏𝐫.
 Coefficient of Variation

• The coefficient of variation, CV, is a measure of relative dispersion that is

useful in comparing the risks of assets with differing expected returns .

• A higher coefficient of variation means that an investment has more

volatility relative to its expected return.

CV = σ / 𝐫̅

For example: If the standard deviation of an asset is 5 percent and its

expected return is 10 percent.

So: CV= 5/10 = 0.5

And this means that every unit of return is associated with 0.5 units of risk, in
other words, The risk is half as large as the return.