DSM CPA (T) REVIEW 1 NBAA Question 2, Nov 2013 (a)You are provided with the return of Songombingo Ple and Tangawizi Ple shares which vary depending on the state of economic growth as depicted in the table below: ‘State of the | Probability of Returns on Retums on Economy economic state Songombingo shares | Tangawizi shares occurring (%) (%) Boom 0.15 45 18 Growth 07 20 17 Recession 0.15 =10 16 Required i) Calculate the expected return and standard deviation of returns for Songombingo shares ii) Calculate the expected return and standard deviation of returns for Tangawizi shares iii) what are covariance and correlation coefficient between the returns of Songombingo and Tangawizi iv) Determine a portfolio expected return and standard deviation if two- thirds of funds is devoted to Songombingo shares and one- third devoted to Tangawizi shares (b) Discuss at least four devices that can be used by shareholders to bind management to the self- interests of shareholders Suppose that Ms.Neemaeli can invest all her savings in shares of Sophy Ltd, or all her savings in Nelly” s Lid. Alternatively , she could diversify her investment between this two . There are two possible states of the economy, growth or recession and the return on Sophy Ltd and Nelly Ltd depend on which state will occur State of the economy | Probability of the state | Sophy” s return (%) | Nelly” s reurn (%) of the Economy occurring Growth 07, 30 15 Recession 03 =10 20 Required a) Calculate the expected return, variance and standard deviation for each share b). Calculate the expected return, variance and standard deviation of the following diversification allocations of Ms Neemaeli’ s savings i) 50% in Sophy, 50% in Nelly ii) 11% in Sophy, 89% in Nelly ©) Explain the relationship between risk reduction and the correlation between individual financial security returns 3. NBAA Noy, 2011 a) (i) Explain the meaning of the “price of risk” Point out any two approaches that can be used to price risk. —--- Charles Kitungutu; 0718 965696: B. Com Finance, CPA (T) Page 1DSM CPA (T) REVIEW 'b) Consider a situation where the risk free rate is 8% and the expected rate of return on the ‘market portfolio is 18% with a standard deviation of 12%. Further, the returns on the market portfolio are assumed to be normally distributed. Required. i) Determine the expected risk and return for a portfolio with 60% risk free asset and 40% market portfolio, ii) What is the expected rate of return of a portfolio with a risk( standard deviation) of 9 percent? iii) Given a portfolio made up of 80% of the market portfolio and 20% the risk free asset, determine the probability of making a loss in any given period. ‘c) Financial markets are considered the main source of funds in any modern market economy. Citing relevant examples from Tanzania, briefly explain any four roles of financial market in the economy. 4, NBAA Nov, 2015 Kimolo Company is an all equity financed company with a cost of capital of 19%. The company is considering the following capital investment projects. Projects Outlay Now Expected receipt in one year Beta factor (1zs) (Tzs) A 70 million 76.65 million 03 B 70 million 79.10 million 0s ic 10Smillion 124.6 million Lo D 140 million 168.0 million 20 ‘The Treasury bill rate is 8% and the expected return on an average market portfolio is 15% Required. i) Calculate Kimoto” s beta factor (2 marks) ii) Evaluate the economic viability of each project (8 marks) 5. NBAA MAY 2015 (a) Tangwi Plc is considering investing in one of two proposed short-term portfolios of four short-term financial investments. The correlation between the returns of the individual investments is believed to be negligible in both option proposed. The market return is estimated to be 15% and the risk free rate 5% Charles Kitungutu; 0718 965696: B. Com Finance, CPA (T) Page 2DSM CPA (T) REVIEW Portfolio 1 Investment Amount invested TZS (million) Expected return Total risk Beta A 10 20% 8 07 B 40 22% 10 12 c 30 24% u 13 D 20 26% 9 14 Portfolio 2 Investment Amount invested TZS (million) Expected return Total risk Beta A 20 18% 7 08 B 40 20% 9 Ll c 20 22% 12 12 D 20 16% 13 14 Required, i) Calculate the risk and return of the two portfolio using the principles of both portfolio theory and CAPM ii) Which portfolio appears to be more efficient? 6. You have been asked for your advice in selecting a portfolio of assets and have been given the following data: Expected returns Year Asset A Asset B Asset C 2010 12% 16% 12% 2011 14 4 4 2012 16 12 16 No probabilities have been supplied. You have told that you can create two portfolio- One consisting of assets A and B the other consisting of asset A and C- by investing equal proportions (50%) in each of the two component assets @) What is the expected return for each asset over the 3- year period? b) What is the standard deviation for each asset’. return’? ©) What is the expected return for each of the two portfolios? -—_———_—_—__——————__ __—_ Charles Kitungutu; 0718 965696: B. Com Finance, CPA (T)DSM CPA (T) REVIEW 4) How would you characterize the correlation of returns of the two assets making up each of the two portfolios identified in part e? ©) What is the standard deviation for each portfolio? ) Which portfolio do you recommend? Why? 7. NBAA Nov, 2016 ‘Mr. Waluwalu is a local entrepreneur doing business in Dar es Salaam. For long time, ‘Waluwalu has been considering investing his money in stock market. He approaches a stockbroker about investing in stocks. The stock broker gave waluwalu two stock options that he can invest in; Stock X and Stock Y. The stockbroker further tells Waluwalu that the economy can either go in recession or it will be boom. Upon further enquiry Mr. Waluwalu established that the likelihood of observing an economic boom is two times as high as observing an economic recession. He also learnt the following regarding the possible returns of the two stocks: State of the Economy R R Boom 10% 2% Recession 6% 40% Required: i) Foreach stock calculate the expected returns and total risk (Variance and standard deviation). ii) Calculate the covariance of the returns of the two stocks iii) Mr. Waluwalu is considering creating two different portfolios. Portfolio I consists of 10% invested in X and reminder in Y, while Portfolio II has equal proportions in both stocks. Compute the expected returns and risk of each portfolio and explain the risk- retum characteristic of each portfolio. 8.NBAA May 2016 ‘Assume that you are working as an assistant investment adviser at Finance 360 Ltd. You have been approached by a client; Mr. Robert Mengison is planning to invest in a portfolio of shares for an investment advice. He has identified two shares with the following details: Share 1-Mbuni Ltd, a company in the brewing industry whose expected annual returns are as follows Annual Investment Return Probability of Occurrence 12% 04 24% 0.6 Charles Kitungutu; 0718 965696: B. Com Finance, CPA (T) Page 4DSM CPA (T) REVIEW Share 2-Samaki Limited, a company in the oil and gas extraction industry, whoes expected annual returns are as follows: Annual Investment Retun Probability of Occurrence 10% 03 20% 07 ‘You have calculated co-efficient of correlation between the two shares which is +0.75 Mr. Mengison plans to invest TZS 600,000,000 in Mbuni Ltd shares and TZS.400, 000,000 in ‘Samaki Limited’ s shares. ‘The following additional information is also known to you: ‘© Return on government bonds is 4% ‘© The return expected from the market is 10% and the risk is 6% Required: Prepare a brief note for Mr. Mengison which covers on the following issues to advise him on his proposed investment: i) Explanation of the terms portfolio theory, systematic and unsystematic risk. ii) The expected return and risk as measured by standard deviation for each share and proposed portfolio ii) ‘The Capital asset pricing model (CAPM) on the efficiency of the proposed portfolio considering that its beta(s) is likely to be 0.843, 9. You have identified two quoted shates at the Dar es Salaam stock exchange (DSE) which you believe will exhibit negative correlation in their possible returns over the next year, as follows Predicted rate of Return on shares of: state_| Probability | Hamduni Co. Ramla Co, A 0.30 25% 14% B 0.45 22% 18% c 0.25 1296 20% 1.00 Required: a) Calculate the variance and standard deviation of each security b) Calculate the covariance between the two securities and the correlation coefficient ©) You construct a portfolio consisting of 70% by value of Hamduni Co. Shares and 30% Ramla Co. Shares. Calculate the expected return, variance and standard deviation of portfolio having the above characteristics. Charles Kitungutu; 0718 965696: B. Com Finance, CPA (T) Page 5DSM CPA (T) REVIEW 10. Currently under consideration is a project with a beta, b, of 1.50. At this time, the risk-free rate of retum, Rs, is 79%, and the return on the market portfolio of assets, kay is 10%. The project is actually expected to earn an annual rate of return of 11% a) If the return on the market portfolio were to increase by 10%, what would you expect to happen to the project's required return? What if the market return were to decline by 10% b) Use the capital asset pricing model (CAPM) to find the required return on this investment. ©) Onthe basis of your calculation in part b, would you recommend this investment? Why or why not? d) Assume that as a result of investors becoming less risk-averse, the market return drops by 1% to 9%. What impact would this change have on your responses in parts b and c? 11, You are forming a portfolio, where you put a quarter of your money in small stocks with a beta of 2.8 and an expected return of 18%. You put half your money in large stocks with a beta of 1.8 and an expected return of 13%. You invest one eighth of your money in a well-diversified portfolio like S&P 500 index with a beta of 1 and an expected return of 9%, and finally, one eight of your money is invested in risk free T-bills. The expected return on the T-bills is 4% a) Whats the expected return on your portfolio? b) What is the systematic risk (beta) on your portfolio? 12, You know that an investment with a beta of 1 generates an expected return of 9%, you also know that another investment, which has a beta of 0, generates a return of 2%, What return can you expect on an investment with a beta of 0.75? 13. Stock A has an expected return of 14.05% and a beta of 2.2. Stock B has an expected return of 7% and a beta of 1. What must be the expected return on a risk free asset? —--- Charles Kitungutu; 0718 965696: B. Com Finance, CPA (T) Page 6DSM CPA (T) REVIEW -_—_—————_—_—_—__—————__ _ —_ Charles Kitungutu; 0718 965696: B. Com Finance, CPA (T) Page 7