Carolina Case Solution
The figures shows that the volatility in the returns of the corporate common stock or equity is very high compared to the volatility that exists with the investment in the corporate bonds which is the reason that effects the decision of the investors. In the Pension funds the amount of risk that can be taken is low, which was the reason it was banned in many states of U.S.
The performance of the 90% of corporate bonds and 10% of Equities gives the return of 6.54% and the volatility of 10.21. The returns from the 20% equities and 80% equities will give the return around 7.25% with the volatility of 11.34. The return from the ratio of 70% and 30% gives the return of 7.96% and the volatility of 12.46. The return of the 60% and 40% investment in the bonds and equities gives the return of 8.68 with the volatility of 13.58.
The Sharpe ratios for the all four fund are 44%, 46%, 48% and 49%. Sharpe ratio expects that the risk measure is the standard deviation of the portfolio instead of considering only the systematic risk, as represented by beta. Sharpe ratio evaluates the portfolio manager on the basis of both rate of return and the diversification. Sharpe ratio takes is the most appropriate for the well diversified portfolios, because it more accurately takes into account the risks of the portfolio.
Benefit of investing in a Diversified Portfolio of Equities:
Out of all the data given the results are formed on the sample of five companies which are COCA COLA, McDonalds, United Technologies, P&G, General Motors Corp.
The mean return of these companies are 2.54%, 1.63%, 1.62%, 1.96% and 2.08% respectively with the historical volatility that is standard deviation of 5.85% for Coco Cola, 6.31% for McDonalds, 5.85% for United Technologies, 5.83% for P&G and 5.63% for General Motors.
If the pension funds go for to invest in the most successful international stocks, then the pension fund can formulate a portfolio and create diversification benefits. The correlation matrix has been created between the asset classes. If we look at the correlation matrix then it could be seen that the correlation between T-bills and other three classes of assets then it has a negative correlation which is beneficial for creating an international diversified portfolio. On the other hand the correlation between the corporate bonds and the other classes of the assets specially the treasury bonds is positive and high.
If the investment in corporate bonds is high then this might increase the risks for the pension fund portfolio and minimize the returns in the long term. The correlation between corporate bonds and treasury bonds is 92.72% which is very high. Therefore, the optimal weights for investment in each asset classes should be in those classes that have lower positive or negative correlation between them in order to create portfolio diversification benefits.
There are many benefits of investing in the diversified portfolio of equity, as a single stock is not same as the stock market, or even the portfolio of stock. A single stock can go up in a down market or go down in a rising market. Diversifying the equity means buying the stock of different companies in different economic sectors at different times, in the hope that if one stock drops another will rise to offset the loss. The risk limitation through the equity diversification is a very common strategy for investors which can create the value for the investors and make them take the amount of risk they can depending on the risk appetite. (KUMAR, 2008) (Kenneth R. French, n.d.)……………..
This is just a sample partial work. Please place the order on the website to get your own originally done case solution