HISTORICAL RETURNSMethod for calculating returns

1. Dollar Return: includes capital gain or loss as well as income (2 cash streams are expected)a. Formula: Capital gain or loss + Income = (Ending value – Beginning value ) + Incomeb. Clicker Q: this includes the total dollar amount of any capital gain (or loss) that occurred as well as any income that you received from a specific investment

2. Percentage Return: returns across diff. investments are more easily compared because they’re standardized (tells you if return is good or bad) & can be used for most types of investmentsa. Formula: Percentage Return= (End value – Beginning value + Income) ÷ (Beginning value) X 100%

Assessment method for investment returns – good, average, or bad Says historical returns are helpful to predict future returns but ‘past performance isn’t necessarily indication of future returns’

HISTORICAL RISKS1. Computing Volatility (good measure if looking at historical return)

a. Can quantify risk- high degree of variability (volatility) in historical returns means high degree of future uncertaintyb. Volatility has a large bearing –using Standard Deviation to help understand stocks future reaction

i. Clicker Q: This is the measure of the past volatility/risk of an investment, which includes firm specific & market riskii. The larger the SD, higher the risk

2. Risk of Asset Classesa. Stocks are more volatile than bonds or T-bills

3. Risk vs. Returna. With any investment, there’s risk–return tradeoff which the Coefficient of Variation (CoV) relatively measures

i. CoV tells us in relationship to this risk/reward scenario, how much extra reward do we need in return for taking this risk?ii. The higher the risk, the higher the return we requireiii. Amount of risk (measured by volatility) per unit of returniv. As an investor, you want to receive a very high return (denominator) with a very low risk (numerator)

a smaller CoV indicates a better risk-reward relationship