Please show work 1. Security A has a 9% expected return, 40% standard deviation.
ID: 2737650 • Letter: P
Question
Please show work
1. Security A has a 9% expected return, 40% standard deviation. Security B has a 7% return, 30% standard deviation.
a) Using standard deviation data alone, which security is considered more risky?
b) Using co-efficient of variation as your sole analysis, which is the best choice of Security?
c) How would you explain co-efficient of variation?
2. The goal is $2,000,000 in retirement savings 20 years from now. Expected return is 6%. There is $500,000 in the account now. How much needs to be invested every year to achieve the goal? How does the annual investment change if the return is 5.5% instead? How does the annual investment change if the return is 6.5% instead?
3) ABC Co. has $12,000,000 in sales, COGS 50% of sales, operating costs of $1,200,000 plus interest expense of $80,000 and depreciation expense of $40,000. Tax rate is 40%. What is the effect on cash due to the depreciation expense taken? (state in $)
Explanation / Answer
1. a) Using standard deviation data alone, Security A is more risky.
b) Co-efficient of variation for Security A = 40% / 9%
= 4.44
Co-efficient of variation for Security B = 30% / 7%
= 4.29
Using co-efficient of variation as sole analysis, Security B is the better choice.
c) Coefficient of variation is the amount of risk taken per unit of return. As such lower the value, better it is for the investor.
2. $2,000,000 - $500,000 * (1 + 6%)20 = Yearly deposit * [(1 + 6%)20 - 1] / 6%
=> Yearly deposit = $10,776.84
At 5.5%
$2,000,000 - $500,000 * (1 + 5.5%)20 = Yearly deposit * [(1 + 5.5%)20 - 1] / 5.5%
=> Yearly deposit = $15,519.00
At 6.5%
$2,000,000 - $500,000 * (1 + 6.5%)20 = Yearly deposit * [(1 + 6.5%)20 - 1] / 6.5%
=> Yearly deposit = $6,134.59
3. Effect of depreciation expense on cash = $40,000 * 40%
= $16,000