Business Finance ADM Module-1

Quarter-2-Week-1-to-3-Introduction-to-Investments
Accountancy, Business and Management (Parañaque National High School)

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Senior
High School

Department of Education
Republic of the Philippines
SCHOOLS DIVISION OFFICE
LAS PIŇAS CITY

BUSINESS FINANCE

Introduction to Investment

Second Quarter – Module 1

Week 1 to 3
WEALTH

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 BUSINESS FINANCE

Business Finance – Grade 12

Alternative Delivery Mode
Quarter 2 – Module1: Introduction to Investments
First Edition, 2021

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Government of the Philippines. However, prior approval of the government agency or office wherein the work is
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represent nor claim ownership over them.

Published by the Department of Education

Secretary:
Undersecretary:
Assistant Secretary:

Development Team of the Module

Author: Sandra H. Gali and Mylene M. Bilog
Editor: Mylene M. Bilog
Reviewers: Ira M. Ocfemia, Jr., Leilani C. Daswani, and Robert B. Reofrir
Illustrator: Sandra H. Gali
Layout Artist: Sandra H. Gali

Management Team:
Dr. Genia V. Santos Dr. Gina L. Aguitez
Chief, CLMD EPS-SDO, Las Piñas

Jennifer L. Tubello Ellaine Margarett U. Baguio

EPS, LRMDS – SDO, Las Piñas PDO – SDO, Las Piñas

Printed in the Philippines by

Department of Education – Bureau of Learning Resources (DepEd-BLR)

Office Address:

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Introductory Message

For the facilitator:

This is an 80-hour course offered in the ABM strand in the Senior High School. This course deals with
the fundamental principles, tools, and techniques of the financial operation involved in the management of
business enterprises. It covers the basic framework and tools for financial analysis and financial planning and
control, and introduces basic concepts and principles needed in making investment and financing decisions.
Introduction to investments and personal finance are also covered in the course. Using the dual-learning approach
of theory and application, each chapter and module engages the learners to explore all stages of the learning
process from knowledge, analysis, evaluation, and application to preparation and development of financial plans
and programs suited for a small business.

For the learner:

This is a self-instructional module for Senior High School (SHS) learners in the Department of Education
- Division of City Schools Las Pinas under the Alternative Delivery Mode or ADM. There are exercises to be
accomplished in this particular module which are expected to be submitted to the faculty or teacher during the
face-to-face encounter in field or in an online classroom sessions or other means of submission.

The exercises provided give emphasis in bridging the gap between theory and practice. SHS learners are
expected to analyze the concepts presented and apply these eventually in their work, for those who are already
have jobs. Before answering the exercises, the learners should have fully understood the concepts presented. No
one could stop the learners to read the modules as many times as they desire.

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HOW TO USE THIS MODULE

Before starting the module, I want you to set aside other tasks that will disturb you while
enjoying the lessons. Read the simple instructions below to successfully enjoy the objectives of
this kit. Have fun!

Fo llow carefully all the contents and instructions indicated in every page of this module.

Write on your notebook the concepts about the lessons. Writing enhances learning that is important to
develop and keep in mind.

Perform all the provided activities in the module. Let your facilitator/guardian assess your answers using
the answer key card. Analyze conceptually the posttest and apply what you have learned.

Enjoy studying! What is this module all about?

PARTS OF THE MODULE

Expectations These are what you will be able to know after completing the lessons in the module

Pre-test This will measure your prior knowledge and the concepts to be mastered throughout
the lesson.

Looking Back to This section will measure what learning and skills did you understand from the
your Lesson previous lesson.

Introduction This section will give you an overview of the lesson.

Brief Discussion This section provides a brief discussion of the lesson. This aims to help you
discover and understand new concepts and skills.

Activities This is a set of activities you will perform to process what you have learned from
the lesson

Remember This section summarizes the concepts and applications of the lessons.

Check your It will verify how you learned from the lesson.
Understanding

Post-test This will measure how much you have learned from the entire module.

References This is a list of all sources used in developing this module.

Answer keys This contains answers to all activities in this module.

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Name: Section:

CONTENT: INTRODUCTION TO INVESTMENT

This module is divided into two lessons, namely:

 Lesson 1 – Types of Investments
 Lesson 2 – Ways to minimize or reduce investment risk

This module will help you to:

 Compare and contrast the different types of investments.
ABM_BF12-IVm-n-23

 Measure and list ways to minimize or reduce investment risks in simple case
problems.
ABM_BF12-IVm-n-25

Let us start your journey in learning about the Introduction to Investments.

I am sure you are ready and excited to answer the Pretest. Smile and cheer up!

Directions: Read carefully and write the letter on the box the correct answer on the given
question/sentence.

1. It is an investment that is made up of a pool of funds collected from many investors for the purpose of
investing in stocks, bonds, and similar assets.
A. savings account B. mutual fund C. real estate D. insurance

2. If you buy company’s stock

A. you own a part of the company.
B. you have lent the money to the company.
C. you are liable for the company’s debts
D. the company will return your original investment to you with interest.

3. It is the probability of a decline in the value of an asset resulting from unexpected fluctuations in interest
rates.
A. market risk B. foreign exchange rate risk C. interest rate risk D. inflation rate risk

4. It is the government agency that regulates the banking institutions in the Philippines.
A. Philippine Deposit Insurance Corporation
B. Central Bank of the Philippines
C. Metropolitan Bank & Trust Company
D. Bureau of Internal Revenue

5. Which of the following is an ownership investment?

A. bonds B. certificate of deposits C. business D. savings account

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6. Which of the following is a lending investment?

A. stocks B. real estate C. precious metals D. bonds

7. It measures the volatility or the expected move of the stock relative to movements in the overall market.
A. alpha B. beta C. standard deviation D. variance

8. it is the result of getting the average of data.

A. mean B. median C. mode D. variance

9. It refers to spreading investment into various assets.

A. allocation B. acquisition C. diversification D. conversion

10. A rate that is reset every six months.

A. stated rate B. fixed rate C. coupon rate D. floating rate

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Lesson
Types of Investments
1
Competency codes: ABM_BF12-IVm-n-23

MELC: Compare and contrast the different types of investments;

Objectives: At the end of his lesson, the learners will be able to….
1. Differentiate types of investments;
2. Make investing decisions; and
3. Compare and contrast the different types of investments.

LOOKING BACK TO YOUR LESSON:

Directions: Write TRUE is the statement is correct, write FALSE if otherwise.

1. The risk-return trade-off is an investment principle that indicates the higher the risk, the
higher the potential reward.
2. Risk aversion means that individuals maximize returns for a given level of risk or
minimize risk if the returns are the same.
3. Risk indifferent is an acceptance of greater volatility and uncertainty in investments or
trading in exchange for anticipated higher returns.
4. Risk seeking describes a mindset where investors focus on potential gains when making
investment decisions.
5. Risk neutral investors may understand that risk is involved, but they aren't considering it for
the moment

INTRODUCTION:

To build wealth, here are the recipe for success:

 Start with some cash
 Earn a high rate of return
 Add lots of time

How important are time and return? Analyze this:

Investor A Investor B
Age Year investment Year-end Age Year investment Year-end
value value
25 1 2,000 2,188 25 1 0 0
26 2 2,000 4,580 26 2 0 0
27 3 2,000 7,198 27 3 0 0
28 4 2,000 10,061 28 4 0 0
29 5 2,000 13,192 29 5 0 0

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30 6 2,000 16,617 30 6 0 0
31 7 2,000 20,363 31 7 0 0
32 8 2,000 24,461 32 8 0 0
33 9 2,000 28,944 33 9 0 0
34 10 2,000 33,846 34 10 0 0
35 11 0 37,021 35 11 2,000 2,188
40 16 0 57,963 40 16 10,000 16,617
45 21 0 90,752 45 21 10,000 39,209
50 26 0 142,089 50 26 10,000 74,580
55 31 0 222,466 55 31 10,000 129,961
60 36 0 348,311 60 36 10,000 216,670
65 41 0 545,344 65 41 10,000 352,427
Less total investment (20,000) Less total investment (62,000)
Net earnings 525,344 Net earnings 290,427

Based on the above chart, Investor A started investing at age of 25 for only 10 years with 9.4% interest.
Investor B started investing at age 35 for 20 years with 9.4% interest. What conclusion can you draw as to why
Investor A make more money, where Investor B actually invested more money, yet returned less?

DISCUSSION:

Investment is an asset or item acquired with the goal of generating income

or appreciation. Appreciation refers to an increase in the value of an asset over
time.
Example: An investor purchases an equipment now with the idea that the
equipment will provide income in the future.

TYPES OF INVESTMENTS

A. Public – government and banks

B. Private – private businesses and stock

PUBLIC INVESTMENTS

1. Government bonds – loans you give to a government and they pay you with interest. Government issued
bonds and sold to investors to support the government spending.

Example: Treasury Bills: Fixed Rate Treasury Retail Treasury

Notes: Bonds:

Minimum ₱100,000 ₱100,000 ₱100,000

investment 1 year and below 2 to 23 years Payable 2 to 24 years Payable
Tenor Interest Issued at discount: sei-annually Except for quarterly Except for
Subject to final tax 20% final tax tax exempt tax exempt

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Pros: Cons:
 Pay a steady interest income return  Offer low rates of return
 Low risk of default (free from credit risk)  Fixed income falls behind with rising
 A liquid market for selling inflation
 Assessable through mutual funds  Carry risk when market interest rates
 Guaranteed by National Government increase
 Can be redeemed before maturity at
prevailing market rates

2. Deposits and Accounts – deposits into a government-regulated bank that earns interest such as
certificate of deposits and government stocks.

Central Bank of the Philippines is the government agency that regulates the banking institutions in the
Philippines.
 Term deposit is a type of deposit account held at a financial institution where money is locked up for
some set period of time.

Pros:
 Offer fixed rate of interest over the life of
the investment
 Risk-free, safe investments, backed up by
PDIC (Philippine Deposit Insurance Corp),
who insure the deposits of all banks up to
₱500,000
 Low minimum deposit amount
 Pay higher rates for larger initial deposits
Cons:
 Interest rates are lower or less-attractive
than most fixed-rate investments.
 Cannot be withdrawn early without penalty
or losing all of the interest earned.
 Interest rate don’t keep up with rising
inflation
 Interest rate risk

PRIVATE INVESTMENTS

1. Stocks – independently bought and sold or purchased in mass by a mutual fund. Investor who buys stock is
buying an ownership share of the company. Investors are paid in profit through dividends.

Two types of stocks:

a. Common stocks
Pros: Cons:
 Potential for higher long-term return  Dividends, if available, are often lower,
 Voting rights variable and not guaranteed
 Stock price and dividend may experience
more volatility.
 More likely to lose investment if company
goes bankrupt.

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b. Preferred stocks
Pros: Cons:
 Dividends are typically higher, fixed and  Lower long-term growth potential
guaranteed  No voting rights
 Share price experiences less volatility
 Holders are more likely to recover at
least part of investment in case of
bankruptcy.

Classes of stocks on the basis of:

Dividend payments: Fundamentals: Risks: Price trends:

 Income stocks  Overvalued stocks  Blue-chip stocks  Cyclical stocks
 Growth stocks  Undervalued stocks  Beta stocks  Defensive stocks

2. Corporate bonds – loans give to a company and they pay you with interest. Issued by a firm and sold to
investors. The company gets the capital it needs and in return the investors is paid a pre- established number
of interest payments at either a fixed or variable interest rate. An investor who buys a corporate bond is
lending money to the company. Investors are paid in interest rather than profit.
Types:
a. According to duration:
o Short-term – three years or less
o Medium term – four year to ten years
o Long-term – more than ten years
b. According to risk
o Investment grade bonds – lower risk
o High-yield bonds – junk bonds. High risk, high interest rate. (subject to bankruptcy)
c. According to interest payment
o Fixed rate – coupon rate/stated rate
o Floating rate – the rate is reset every six months
o Zero coupon – withhold interest payment until maturity
o Convertible – allows you to convert bonds to shares of stocks.

Pros:
 Tend to be less risky and less volatile
than stocks.
 Wide universe of corporate issuers and
bonds to choose from.
 The corporate bond market is among the
most liquid and active in the world.
Cons:
 Lower risk translates to lower return, on
average
 Many corporate bonds must be purchased
over the counter.
 Corporate bonds expose to investors to
both credit risk as well as interest rate risk.

3. Futures – allow traders to lock in a price of the underlying asset or commodity. These contracts have
expiration dates and set prices that are known upfront.

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Examples: commodity futures in crude oil, natural gas, corn, wheat etc.

Pros:
 Investors can use futures contracts to
speculate on the direction in the price of an
underlying (derive) asset.
 Companies can hedge (confine) the price
of their raw materials or products they sell
to protect from adverse price movements.
 Require deposit only a fraction of the
contract amount with a broker.
Cons:
 Investors have a risk that they can lose more
than the initial margin amount since futures
us leverage
 Investing in a futures contract might cause a
company that hedged to miss out on
favorable price movements
 Margin can be a double-edged sword
meaning gains are amplified but so too are
losses.

CATEGORY OF INVESTMENT:
A. Ownership investment
 Stocks – gives you a stake in a company and its profit.
 Real estate – any real estate you buy and then rent out or resell.
 Precious objects – precious metals, art collectibles, etc if the intention is to resell them for a profit.
 Business – putting money or time toward starting your own business to earn profit.
B. Lending investment
 Bonds- buying bonds is lending money to an entity, in return, an interest is to receive from that entity
 Certificate of deposits – a savings account for a set period of time, where you are lending your money to
the bank, in return, the bank offer a higher interest rate than the normal savings account based on how
long you leave your money alone.
 Savings account – a typical bank account, where you are lending your money to the bank, in return, a
minimal interest rate is offered by the bank.
 Retirement plan – putting your money in an insurance company, in return, a benefit is to be payable to
the member in the form of pension to maintain your lifestyle even you get old.
C. Cash equivalents
 Investments that are “as good as cash” – a money market fund. It is like savings account, where you put
your money at the bank and you may withdraw whenever you want but usually limited to certain
number of withdrawals.

INVESTMENT VS INSURANCE

 Investments provide for you and your family  Insurance provides for your family’s financial needs
after you retire. if you die. It pays a cash benefit to the policyholder’s
family upon the death of the policyholder.

 Investment is a type of asset that you purchase  Insurance lacks a cash value component.
with the intention of selling at a profit in the
future.

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Mutual Fund – a company that pools money from many investors and invests the money in securities. The
investors buy share in mutual fund. A mutual fund is categorized by market cap which indicates the size of
the companies in which the fund invests, not the size of the mutual fund. Manage by their own companies.
Market cap is calculated by the number of shares outstanding, multiplied by the current market price of one
share. Ex. a company with one million shares outstanding, selling at ₱100/share, would carry a ₱100 million
market cap.
 Small cap funds -less stable, can generate sharply negative returns in times of market instability when
less-established companies can go out of business but they are great investment for market players who
can tolerate risk and dare seeking aggressive growth.
 Mid cap funds – generate less risk, slightly larger and better established. Great investment vehicle for
investors seeking superior returns without the risk of small caps.
 Large cap funds – great investment tools for market players who have long-term holding periods and
are looking to buy and hold. They generate steady returns and income for those who want to assume
risk.

UITF – unit investment trust fund – the same as mutual fund but manage by banks.

Activity 1:

Directions: Answer the following statements:

1. Differentiate stocks from bonds.

2. What is the advantage of investing in corporate bonds over the government bonds?

3. Why certificate of deposit is considered as lending investment?

4. Give your opinion on the current situation of stock market right now. Would it be profitable to
invest in stocks?

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Activity 2: Invest me please!

1. Dennis is planning to invest his money to earn more. He is willing to take a little risk by buying income-
earning assets to help him earn more. However, he wanted to make sure that when he needs the money he
invested, he will be able to get part of it immediately. What type of investment would you advise Dennis to
buy? Why?

2. Minerva will be celebrating her 60th birthday two months from now. She was able to save certain amount of
money from her 30 years in public school as Principal. She is now planning to invest it to earn something
when she already retires. Which of the following options will you recommend? Why?
a. Construct a resort to be rented out to others for team building, seminars, and other gatherings suited to
the place;
b. Invest in the latest trending Foreign Exchange (FOREX) trading in the Philippines which earns high rate
of return;
c. Buy different cars to be registered and used for rented transportation like GRAB.

Activity 3: Compare and Contrast

Directions: Differentiate the following investments by determining its advantage or disadvantage.

1. Retirement vs Insurance 4. Gold vs Land

2. Savings Account vs Certificate of Deposits 5. Preferred stock vs common stock

3. House and Lot vs Car 6. Money market vs Capital market

Rubrics:
Criteria Point Score
Writing shows strong understanding of the topic 5
Present ideas in an original manner 5
Organized BEMING (beginning, middle and ending) 5
Clear and legible typewritten/ presented words 5
Achievement of required task 5
TOTAL 25

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Lesson WAYS TO MINIMIZE OR REDUCE

2 INVESTMENT RISK

Competency codes: ABM_BF12-IVm-n-25

MELC: Measure and list ways to minimize or reduce investment risks in simple case problems;

Objectives: At the end of this lesson, learners will be able to….

1. Identify the type of risk experiencing by different investors;
2. Measure the risk of investing;
3. Solve problems in relation to investments; and
4. List ways to minimize investment risks.

LOOKING BACK TO YOUR LESSON:

Directions: Match the following investment in column A with its corresponding description or
function in column B. Write the letter on the blank before the number.

A B

1. Common stock A. Type of debt that company issues to investors

B. A share of ownership in a company
2. Mutual funds
C. A type of investment that is offered by depository
3. Bonds institutions

4. Savings account D. Hedging the prices of future commodities to

protect from price movement.
5. Futures
E. Pooling of money from investors and invests the
money in securities.

INTRODUCTION

All investments involve some degree of risk. In finance, risk refers to the degree of uncertainty and/or
potential financial loss inherent in an investment decision. As investment risk rise, investors seek higher returns
to compensate themselves for taking such risks.

How readily investors can get their money when they need it? How fast
their money will grow?
How safe their money will be?

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DISCUSSION

As an investor, you will encounter many different kinds of risk that may affect your investments.

Types of Risks:

1. Market risk – losing its value due to various

economic events that can affect the entire market.
a. Equity risk – the drop in the market price of the
shares.
b. Interest rate risk – a decrease in interest rate
increases the market value of debt.
c. Currency risk – the risk of losing money on forex
because of the movement in the exchange rates.

2. Liquidity risk – the risk of being not able to sell

the securities at a fair price and converting into
cash. Due to less liquidity in the market, the
investors might have to sell the securities at a
much lower price, losing the value.

3. Concentration risk -loss on the invested amount because it was invested in only one security or one type of
security. The investor loses almost all of the invested amount if the market value of the invested particular
security goes down.

4. Credit risk – the risk of default on the bond issued by a company or the government. The issuer of the bond
may face financial difficulties due to which it may not be able to pay the interest or principal to the bond
investors thus, defaulting on its obligations.

5. Reinvestment risk – losing higher returns on the principal income because of the low rate of interest.

6. Inflation risk – loss of purchasing power because the investments do not earn higher return than inflation.
Inflation eats away the returns and lowers the purchasing power of money. If the return on investment is lower
that the inflation, the investor is at a higher inflation risk.

7. Horizon risk – shortening of investment horizon due to personal events like loss of job, marriage, or buying
a house, etc. a period of time one is expecting to hold an investment until they need the money back.

8. Longevity risk – outliving the savings or investment particularly pertain to retired or nearing retirement
individuals.

9. Foreign investment risk – risk in investing foreign countries, falling of GDP, high inflation or civil unrest,
the investment will lose money.

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MANAGING RISKS:

a. Diversification – spreading investment into various assets.

b. Asset allocation – short-term and long-term.
c. Investing consistently – investing small amounts at a regular interval.
d. Investing for the long term – long term investments provide higher return than short term
investment.

Tactics to ascertain risk:

 Standard deviation – measure the dispersion of data from its expected value. It is used in making an
investment decision to measure the amount of historical volatility associated with an investment relative
to its annual rate of return.
∑(𝑅𝑖−𝑅𝑎𝑣𝑔)2
FORMULA: √
𝑛−1
Where: Ri – the return observed in one period
Ravg – the arithmetic mean of the returns observed n –
the number of observations in the dataset

To find standard deviation:

1. Add up the rates of return for the period you want to measure
2. Divide by the total number of rate data points to find the average return.
3. Take each individual data point and
4. Subtract your average to find the difference between reality and the average.
5. Square each of these numbers and
6. Then add them up.
7. Divide the resulting sum by the total number of data points less one -- if you have 12 data points,
you divide by 11.
8. The standard deviation is the square root of that number

Stock A: Rate of Return Stock B: Rate of Return

Jan 11.53% Jan 4.13%
Example: For the last 5
Feb 1.75% Feb 3.86%
months, the following rate of
Mar 12.70% Mar (0.33%)
returns were observed on the
Apr 33.56% Apr 12.56%
following investments:
May 15.77% May 22.55%
Step1: sum of rate of ret 75.31% 42.77%
Step2: average return 75.31%/5 = 15.062% 42.77%/5 = 8.554%
A B diff diff^2 diff sqrt
Step3: itemized data
-
Step4: Rate of ret – Ave ret 0.1153 0.15062
0.0353 0.00124750
0.0413 0.0855
-0.0442 0.00195718
Step5: square of diff -
0.0175 0.15062 0.0386 0.0855
0.1331 0.01772517 -0.0469 0.00220284
-
0.127 0.15062 -0.0033
0.0236 0.00055872 0.0855 -0.0889 0.00789765
0.3356 0.15062 0.1850 0.1256 0.0855
0.03421794 0.0401 0.00160598
0.1577 0.15062 0.0071 0.2255 0.0855
0.00005040 0.1400 0.01958900
Step6:∑(𝑅𝑖 − 𝑅𝑎𝑣𝑔) 2 0.05379973 0.03325264

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0.05379407/(5-1)
0.01344993 0.03325264/(5-1) 0.00831316
Step 7: variance
Step8:standard deviation √0.01344852 0.11597384 √0.00831316 0.09117653

The standard deviation for stock A is 11.60% and for stock B is 9.11%. The returns of the
investor’s stocks fluctuate by approximately 11.60% for stock A and 9.11% for stock B. The greater the
standard deviation of the returns, the greater is the risk of the asset. In this case, you can still maintain the
two stocks but it is recommended to reduce your investment in stock A and increase your investment in
stock B because the prices are more calm than stock A.

 Alpha – measures risk relative to the market or selected benchmark index. If the fund outperforms the
benchmark, it is said to have a positive alpha. A negative alpha indicates the underperformance of an
investment. This is used to determine the highest possible return on an investment for the least amount of
risk.

Benchmark index – a standard used to evaluate a fund’s performance over time.

Formula: Alpha = R – Rf – beta (Rm-Rf)
Where: R – represents the portfolio return
Rf – represents the risk-free rate of return
Beta – represents the systematic risk of portfolio Rm –
represents the market return, per benchmark

Example 1:

A portfolio with a Beta of 1.5 that generated an Actual Return of 6% during last year. if the
current Market return is 4% and the Risk-Free Rate is 2%, then calculate the alpha of the portfolio.

Given: market return 4% Alpha = R – Rf - beta(Rm-Rf)

Risk-free rate 2% Alpha = 0.06 – 0.02 – 1.5(0.04 – 0.02)
Actual rate 6% = 0.04 – 0.03
Portfolio beta 1.5 = 0.01 or 1%

Interpretation:

The investment portfolio of the company has a positive alpha of 0.01 or 1% which
indicates that there is a 1% excess return of an investment relative to the return of a benchmark
index.

Example 2:
The Portfolio of three securities yielding Actual Returns of 5%, 8% and 7% during last year. The
beta of the Respective Securities are 1.2, 1.5 and 1.0 and their Weight in the Portfolio is 0.30, 0.45
and 0.25. It Realized a Return of 4.74% during the last one year. The 10-year Treasury bill currently
offers a Return of 2.07%.
Based on the given information, determine whether the Portfolio Manager could generate any
Alpha or not.

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Given:

Security Actual returns Beta Weight of

Portfolio return investment
=( 0.30x0.05)+(0.45x0.08)+(0.25x0.07)
1 5% 1.2 0.30 =6.85%
2 8% 1.5 0.45 Portfolio beta
=( 0.30x1.2)+(0.45x1.5)+(0.25x1.0)
3 7% 1.0 0.25 =1.29

Alpha = Portfolio return – risk free rate – Beta(Market return – risk free rate) Alpha
= 0.0685 – 0.0207 – 1.29(0.0474 – 0.0207) = 0.01336 or 1.34%

Therefore, the portfolio manager has been skillful to generate a portfolio alpha of 1.34%.

Risk-free rate of return – the theoretical rate of return of an investment with zero risk. The risk- free
rate represents the interest an investor would expect from an absolutely risk-free investment over a
specified period of time.

Portfolio return – the gain or loss realized by an investment portfolio containing several types of
investments. Rp = (Weight of the investment #1 x return of investment #2)+ (Weight of investment #2
x return of investment #2)

Investment Return
Example: A 25,000 10%
B 75,000 6%

Portfolio return = 25,000/100,000 x 10% + 75,000/100,000 x 6%

= 2.5% + 4.5% = 7%

Weight is equal to the mount per investment over the total investment. Ex. investment A is
25,000/100,000.

 Beta – measures the volatility or systematic risk of a fund in comparison to the market or selected
benchmark index. Betas below one are considered less volatile than the benchmark.
If β = 1 exactly as volatile as the market If β = 0 uncorrelated to the market

If β > 1 more volatile than the market If β < 0 negatively correlated to the market If
β <1> 0 less volatile than the market *volatile – change rapidly

𝑠𝑒𝑐𝑢𝑟𝑖𝑡𝑦𝘍𝑠𝑡𝑎𝑛𝑑𝑎𝑟𝑑 𝑑𝑒𝑣𝑖𝑎𝑡𝑖𝑜𝑛 𝑜𝑓 𝑟𝑒𝑡𝑢𝑟𝑛𝑠

Formula: β = 𝑏𝑒𝑛𝑐ℎ𝑚𝑎𝑟𝑘 𝑠𝑡𝑎𝑛𝑑𝑎𝑟𝑑 𝑑𝑒𝑣𝑖𝑎𝑡𝑖𝑜𝑛 𝑜𝑓 𝑟𝑒𝑡𝑢𝑟𝑛𝑠 x correlation of security’s and benchmark’s
return

Correlation -shows the strength of a relationship between two variables and is expressed numerically by a
correlation coefficient.
o Perfect positive correlation means that the correlation coefficient is exactly 1 – it means that as
one security moves, either up or down, the other security moves in lockstep, in the same
direction.
o Perfect negative correlation means that two assets move in opposite directions, while zero
correlation implies no linear relationship at all.

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∑(𝑋−̅𝑋̅) (𝑌− 𝑌̅ ̅ )
Formula: r = √∑(𝑋− ̅𝑋̅)2 √∑(𝑌− 𝑌̅ )̅ 2
Where: r = the correlation coefficient
𝑋̅ = the average of observations of variable X
𝑌̅ = the average of observations of variable Y

Example: The following shows the trend in stock market for the last ten weeks. Check your investment in
stock if the movement is volatile. Calculate the beta.
Individual Stock Benchmark index
Date Price Return Date Price Return
6/01/20 15.78 6/01/20 2,696
6/07/20 16.38 3.8% 6/07/20 2,751 2.0%
6/14/20 16.67 1.8% 6/14/20 2,776 0.9%
6/21/20 17.17 3.0% 6/21/20 2,839 2.3%
6/27/20 17.02 -0.9% 6/27/20 2,822 -0.6%
7/04/20 16.31 -4.2% 7/04/20 2,695 -4.5%
7/11/20 16.00 -1.9% 7/11/20 2,663 -1.2%
7/18/20 16.43 2.7% 7/18/20 2,716 2.0%
7/25/20 16.97 3.3% 7/25/20 2,765 1.8%

Compute for the standard deviation:

Individual stock ( X ) Benchmark (Y) Correlation:
averag Retur Averag
n e (𝑌
return e (X Y-𝑌̅ (𝑋 − ̅𝑋̅̅) (𝑌 − 𝑌̅̅̅)
𝑋̅ X-𝑋̅ − 𝑋̅ ) 2 − 𝑌̅ ) 2
X
2.85 Y 𝑌̅
3.80% 1.66 0.00047381
2.00%
0.95% % 0.08% 0.34% % 0.03% 0.00004781
0.85 0.56
1.80% 0.90% 0.00040231
0.95% % 0.01% 0.34% % 0.00%
2.05 1.96 0.00017344
3.00% 2.30%
0.95% % 0.04% 0.00249131
0.34% % 0.04%
- 0.00043819
- 1.85 -
0.90% - 0.94 0.00029094
0.95% % 0.03% 0.60%
0.34% % 0.01% 0.00034369
-
- 5.15 4.84- ∑(𝑋 − ̅𝑋̅̅) (𝑌 − ̅𝑌̅̅)
4.20% -
0.95% % 0.27% 4.50% 0.00466150
0.34% % 0.23%
-
1.90%
- 2.85 - 1.54- 0.00466150
1.20% r= √.006 √.0038 =0.97
0.95% % 0.08% 0.34% %
1.75 1.66 0.02%
2.70% 2.00%
0.95% % 0.03% 0.34% %
2.35 1.46 0.03%
3.30% 1.80%
0.95% % 0.06%
0.34% %
0.02%
∑(r-ravg)^2 Variance
∑(r-ravg)^2 0.60% 0.38%
Variance (0.006/7) 0.09% (0.0038/7) standard 0.05%
standard deviation deviation
√0.0009 2.92% √0.0005 2.34%
𝘍
β= 𝑠𝑒𝑐𝑢𝑟𝑖𝑡𝑦 𝑠 𝑆𝐷 𝑜𝑓 𝑟𝑒𝑡𝑢𝑟𝑛𝑠 0.0292
𝑏𝑒𝑛𝑐ℎ𝑚𝑎𝑟𝑘 𝑠𝑆𝐷𝑜𝑓 𝑟𝑒𝑡𝑢𝑟𝑛𝑠xcorrelation = 0.0234x 0.97 = 1.21
Interpretation: The company’s investment in shares of stocks is more volatile than the market as shown
by its Beta of 1.21. This indicates that the company would have returned 121% of what the market returned
in two months’ time.

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To compute for the Alpha:

Alpha = R – Rf - beta(Rm-Rf) = .0095-0-1.21(.0034-0)

= .005 (the fund outperform the market by 0.5%)

R = actual return (get the average actual return equivalent to 𝑋̅ ) = 0.95% Rf =

risk free 0
Beta = 1.21
Market return = 0.0034

 R-squared – measures the percentage of an investment’s movement attributable to movements in its

benchmark index. It represents the correlation between examined investment and its associated
benchmark. This will be discussed further in your statistics and research.

Portfolio – collection of assets/investments owned by an individual or an institution.

Example: The investment portfolio of ABM Corporation comprised of three securities in the
following proportions:

Portfolio investment = ₱1,300,000

Amount of Expected Portfolio return = (3/13 x 12.5%) +
Security Beta
investment returns (8/13 x 10.2%) + (2/13 x 15%)
A ₱300,000 1.0 12.5% = 11.47%
₱800,000 1.5 10.2% Portfolio Beta = (3/13 x 1.0) + (8/13 x 1.5) +
B ₱200,000 0.9 15.0% 2/13 x 0.9)
C = 1.29

Try this!

Activity 1: Risk me please

Directions: Identify what risk re being experienced by the following. Write your answer on the blank
before the number.

1. Jeremy is getting married in two months-time. Her fiancé’s budget is not enough to pay for the
expenses in the wedding. She has a certificate of deposit which could suffice the shortage in their budget.
However, the certificate of deposit’s maturity is in five years.

2. Peejay, a bondholder, is experiencing a slight loss in his investment due to Bayanihan Act
which decreases the rate of interest on all types of loan.

3. Investor Lee lend too much in few debtors.

4. Joshua has a certificate of deposit that has a locked in period of 10 years with only 4% interest
per annum.

5. Judith has a ₱10 million savings in the bank for 10 years now. She is afraid that her money
will go to nothing if she invests it in other investment items. The prices of commodities 10 years ago is 10 times
cheaper than now.

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6. Ladycar is a holder of 10,000 shares of stock of Jollibee Food Corporation. Due to the
pandemic, Ladycar needs to convert her stocks into cash, but the prices of stocks are not doing good and no
investors are willing to buy it at fair price.

7. Gwendolyn, holder of bonds, is experiencing a hard time in collecting her receivables from
the issuer of bonds, because the issuer is affected by the economic crises.

8. A future contract was entered by Ms Monica to lock in the price of imported goods which is
scheduled to ship two months from now. The current exchange rate is ₱52 for US$1. When the imported items
arrived, the exchange rate if ₱48 for US$1.

9. John Paul offers credit to the counterparty then there is always a risk existed for the lender
that it might not receive the credited amount back from the counterparty.

10. Danica lose her job and was forced you to sell some of her investments, including those
that she had hoped to hold for the long term.

Activity 2: Calculate me please

Directions: A portfolio of investment is presented below by Fullo Company. You are asked by the
manager to help them measure the risk of their investment. Use standard deviation, alpha and beta. The
investment weight in Jollibee is 40%, in Mcdo is 60%.

Stock -Jollibee: Stock B - Mcdo:

Benchmark index:
Month Price Return Month Price Return Month Price Return
Jan 125 Jan 220
Jan 3000
Feb 128 Feb 224
Mar 133 Mar 276 Feb 3200 6.67%
Apr 130 Apr 288 Mar 3300 3.13%
May 145 May 311
Apr 3700 12.12%
June 166 June 299
July 199 July 289 May 3650 -1.35%
Aug 230 Aug 365 June 3430 -6.03%
Sept 211 Sept 378
July 3770 9.91%
Oct 277 Oct 399
Nov 333 Nov 377 Aug 3600 -4.51%
Dec 302 Dec 422 Sept 4110 14.17%
Oct 4300 4.62%
Nov 4560 6.05%
Dec 5780 26.75%

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To solve this problem, use the given format below:

Stock - Jollibee Stock - Mcdo Benchmark index

Return Ave Diff Diff^2 Return Ave Diff Diff^2 Return Ave Diff Diff^2
0.067 0.065 0.002 0.0000028
0.031 0.065 -0.034 0.0011391
0.121 0.065 0.056 0.0031598
-0.014 0.065 -0.079 0.0061644
-0.060 0.065 -0.125 0.0156936
0.099 0.065 0.034 0.0011645
-0.045 0.065 -0.110 0.0121204
0.142 0.065 0.077 0.0058778
0.046 0.065 -0.019 0.0003524
0.060 0.065 -0.005 0.0000206
0.268 0.065 0.203 0.0410240
∑(r-ravg)^2 ∑(r-ravg)^2
∑(r-ravg)^2
Variance (∑(r-ravg)^2)/N-1 Variance (∑(r-ravg)^2)/N-1
Variance (∑(r-ravg)^2)/N-1
Standard deviation √𝑣𝑎𝑟𝑖𝑎𝑛𝑐𝑒 Standard deviation √𝑣𝑎𝑟𝑖𝑎𝑛𝑐𝑒
Standard deviation √𝑣𝑎𝑟𝑖𝑎𝑛𝑐𝑒

To compute alpha and beta, get the average of the two investments based on its weight. Interpret the
result of your answers.

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Risk in investing:

 Market risk -experience loss due to factors that affect the overall performance of
the financial markets such as market price of shares, foreign exchange and interest
rate.
 Liquidity risk – not able to meet short-term obligation due to inability to convert assets into cash without
incurring loss.
 Concentration risk – potential for loss due to lending too much to one particular customer.
 Credit risk – the possibility of loss resulting from borrower’s failure to repay the contractual
obligations.
 Reinvestment risk -the possibility that the investor will be unable to reinvest the cash flows at a better rate
due to long maturity.
 Inflation risk -possibility of loss due to a decline in the purchasing power.
 Horizon risk - possibility of loss due to unexpectedly shortened.
 Longevity risk – the chance that the life expectancies and actual survival rates exceed expectations or
pricing assumptions, resulting in greater-than-anticipated cash flows.
 Foreign investment risk – the risk of loss when you invest in other countries.
 Ways to measure investment risk:
o Standard deviation - when prices move wildly, standard deviation is high, investment will be very
risky. Low standard deviation means prices are calm, investment is low risk.
o Alpha – strategy’s ability to beat the market. Positive alpha means the investment outperform the
market, while negative alpha, the investment underperforms the market.
o Beta – measures the volatility or the expected move of the stock relative to movements in the overall
market. A beta greater than 1 suggests that the stock is more volatile than the broader market, and a beta
less than 1 indicates a stock with lower volatility.

Activity 3: Problem solving

Directions: Compute for the following given statement and justify your answer.

1. Consider two bonds. Bond A has a face value of ₱100,000 and a stated rate of 12%. Bond B has a face value
of ₱100,000 and a stated rate of 8%. Both bonds have the same maturity. Which bond has the greatest
interest rate risk?

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2. Consider two bonds. Bond X has a face value of ₱100,000 and five years remaining to maturity. Bond Y has
a face value of ₱100,000 and ten years remaining to maturity. Both bonds have the same stated rate of 12%.
Which bond has the greatest interest rate risk?

3. An investment portfolio comprise of four securities are listed as follows with its beta and expected returns:

Compute for:
a. Portfolio investment Security Amount invested Beta Expected returns

b. Portfolio returns A ₱1,000,000 1.2 11.5%

c. Portfolio beta B ₱800,000 1.5 13.2%
C ₱500,000 0.8 10.5%
D ₱1,200,000 0.7 12.5%

4. To minimize certain risk, list ways below:

Congratulations for a job well done!!! Keep on learning!

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ASSESSMENT:

Before we move on to the next journey, answer the following:

Directions: Read carefully the statement and choose the correct answer and write the letter on
the box provided.

1. What are the three ways of making money from an investment?

A. interest, dividends and capital gains
B. buying, selling and holding
C. profit, rate of return and assets
D. ROI, IRR and ARR

2. Generally, the investment that appears to offer the biggest potential return also has .
A. the biggest risk of losing some money
B. the strongest guarantees
C. the most diversified mix of products
D. no risk at all

3. A diversified portfolio is desirable because it

A. increases the risk/return ratio
B. limits investors choices to only one or two investment tools
C. indicates an investor is a good predictor of the return an investment will have
D. decreases risk by investing money in a variety of investment tools.

4. The relationship between risk and return in investing can be stated as

A. higher risk indicates lower return

B. higher risk indicates higher return
C. lower risk indicates higher return
D. no relationship exists between risk and return

5. If you buy company’s stock

A. you own part of the company
B. you have lent money to the company
C. you are liable for the company’s debts
D. the company will return you original investment with interest

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6. Which of the following investment has the highest risk?

A. certificate of deposit C. savings account
B. shares of stocks D. futures

7. Which of the following investment has the lowest risk?

A. stocks B. bonds C. metals D. savings accounts

8. Consider the following investments:

Investment A – expected returns 5%; standard deviation 10%
Investment B – expected returns 7%; standard deviation 12%
Which investment is better?
A. investment A B. investment B C. both A and B D. neither A nor B

9. It refers to the possibility of a loss resulting from a borrower’s failure to repay a loan.
A. credit risk B. market risk C. inflation risk D. horizon risk

10. It is a risk of loss when you invest in foreign countries?

A. Foreign exchange risk C. Longevity risk
B. Foreign investment risk D. Reinvestment risk

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REFERENCES:

Books:
Cabrera, Ma. Elenita B., Business Finance Principles and Applications 2017 Edition Cabrera, Ma.
Elenita B., Management Accounting Concepts and Applications 2017 Edition Valix, et al. Financial
Accounting volume 2 2017 edition

Internet Websites:

https://www.investopedia.com/terms/i/investment.asp
http://barnessite.weebly.com/make-money-make-money.html
https://www.investopedia.com/terms/t/termdeposit.asp
https://www.investopedia.com/terms/f/futures.asp#:~:text=Futures%20are%20financial%20contracts
%20obligating,commodity%2C%20or%20a%20financial%20instrument.
https://www.policygenius.com/life-insurance/is-life-insurance-a-good-investment/
https://www.investor.gov/introduction-investing/investing-basics/what-risk
https://www.wallstreetmojo.com/investment-risk/
https://www.fincash.com/l/equity/standard-deviation
https://www.investopedia.com/ask/answers/070615/what-formula-calculating-
beta.asp#:~:text=Beta%20could%20be%20calculated%20by,returns%20and%20the%20benchmark 's%20returns.

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