Estimate the expected return, Financial Accounting

Assignment Help:

Case study

Josephine

Josephine has just landed her first job out of graduate school.  She is lucky enough to be working for one of the Big Four, earning $50,000 per year.  She expects her salary to increase by 3% each year.  Josephine has a goal of retiring after 30 years and then traveling the world in retirement for 20 years.  Once she retires she will move all of her assets into Treasury Bonds earning 2%.  Josephine would pay for her post retirement lifestyle by drawing $82,000 each year from her 401K.  She will contribute 18% of her salary to the 401K each year.  Her 401K offers her the choice of low-risk bonds yielding 5% a year indefinitely and a stock portfolio that is considerably more risky, but expected to yield 9% per year on average. 

Design a long-term portfolio, with appropriate weighting between bonds and stocks, for Josephine that will achieve her goal of allowing her to draw $82,000 a year from her 401K each year for 20 years beginning 30 years from now.  You should construct a portfolio that would produce an "expected outcome" that gives her just what she needs (i.e., $82,000 a year for 20 years with nothing left at the end) with the minimum degree of risk possible.  For simplicity, assume that whatever portfolio you develop for her would be the same portfolio for the 30 pre-retirement years. 

What is the minimum rate of return that she would require?  You can use a trial-and-error approach or use Excel's Goal-Seek function.  What proportion of her portfolio should be in low-risk bonds and what proportion should be in stocks? 

Jim

Jim is a 59-year old carpenter.  He wants to retire next month on his 60th birthday.  He will receive an annual pension of $35,000 from his former employment.  He also has a tax deferred annuity (401k) currently valued at $250,000.  At the moment, his 401k is invested in just two stocks: He is 25% invested in Microsoft (MSFT), and 75% invested in McDonald's (MCD). 

Jim has calculated the beta of both stocks (relative to the S&P 500), the standard deviation of both stocks, and the covariance of the returns of the two stocks.  He has also checked the risk-free rate and he has estimated the return on the S&P 500.  His estimates are below.

                   Stock         Beta           Standard Deviation

                   MSFT       1.8                      68%                     

                   MCD         1.3                      46%   

Correlation (MSFT, MCD) =   0.0350

Risk-free rate = 1%

Expected return on the S&P 500 = 9%

A. Estimate the expected return on his current portfolio.

Estimate the risk associated with his current portfolio in terms of both the portfolio beta and the portfolio standard deviation.

B. Limited to the two stocks that Jim is already invested, develop a better portfolio for Jim.  That is, change the weighting on Jim's two stocks to try to get a higher expected return or a lower level of risk (as measured by the standard deviation).  You can use a trial-and-error approach or use Excel's Solver function.


Related Discussions:- Estimate the expected return

Statement of cash flow, under gaap, are proceeds from capital lease obligat...

under gaap, are proceeds from capital lease obligation reported in the statement of cash flow and why

Net investment and single net cash flow, Would you invest in a project that...

Would you invest in a project that has a net investment of $14,600 and a single net cash flow of $24,900 in 5 years, if your required rate of return was 12 percent?

Net cash provided by operating activities was?, 50. In preparing a company'...

50. In preparing a company's statement of cash flows for the most recent year on the indirect method, the following information is available: 52,000-Net income for the year 18,00

Financial information, The enhancing qualitative characteristic of understa...

The enhancing qualitative characteristic of understand ability means that information should be understood by a those who are experts int eh interpretation of financial information

Inventory, Can I send you my homework?

Can I send you my homework?

What is capitalized interest, Q. What is Capitalized Interest? Capitali...

Q. What is Capitalized Interest? Capitalized Interest - INTEREST cost incurred during time required to bring an ASSET tothe condition and location for its intended use and incl

Calculate the sales needed to earn a profit of 20% on sales, Question: ...

Question: The following data are obtained from the record of a factory:                                                        £                   £ Sales 4,000 units @ £2

Prepare journal entries to record the borrowing, On December 1, 2013, Colon...

On December 1, 2013, Colonel Wilder borrowed $400,000 at 12% interest and pledged $500,000 in accounts receivable as collateral. Additionally, Colonel Wilder was charged a finance

Minority interest-group accounts, Minority interest (MI) When the holding...

Minority interest (MI) When the holding company owns less than 100% of the ordinary share capital of the subsidiary company then the other balance is held by minority interest. T

Write Your Message!

Captcha
Free Assignment Quote

Assured A++ Grade

Get guaranteed satisfaction & time on delivery in every assignment order you paid with us! We ensure premium quality solution document along with free turntin report!

All rights reserved! Copyrights ©2019-2020 ExpertsMind IT Educational Pvt Ltd