Managerial Finance Discussion and Responses


Managerial Finance Discussion and Responses

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Managerial Finance Discussion and Responses
Learning Engagement # 3
TOPIC: Whether risk of a security/stock is same in isolation and
           as a part of a portfolio?
An investor may hold a security in isolation or he/she may hold it as a part of a portfolio. What impact it may have as to the risk exposure of the investor holding that security? How do you define risk of a security? How do you define risk of a portfolio?
by Jana Kmetova
According to Abhishek (2018), seven kinds of risk are connected with security. Firstly, market risk – this kind of risk is also called systematic risk, and it is based on daily fluctuation in the market. The market values go up and down during a day, affecting the returns from the stocks. For instance, if the market values go down at a time, then stock prices go down. In addition, short-term risks are higher compared to long-term. The second risk of the stock/security is a business risk – this risk comes from business and can increase if the company is doing well. The crucial reasons for risk increase are poor leadership and quarter-by-quarter results or misjudgment in bringing a company under business risk. Thirdly, liquidity risk – the higher the debt is, the higher the risk of the company to pay its bills increases. When the risk is too high, many companies come with the solution of cutting their dividends. Following is taxability risk – taxes change all the time, and taxation can affect the stock price. Since the government controls taxation, there is nothing much that management can do to influence the evolution of the prices.Furthermore, the global market changes interest rates sometimes, which brings interest rate risk for the companies. For example, if the interest rates are high, the company has difficulties borrowing the money. Regulatory risk is another kind of danger for stocks on the market. For example, suppose a company loses a license to make alcoholic beverages. In that case, it will influence the profit and stick of the company because many companies are highly regulated by the government, such as tobacco factories, pharmaceutical or cosmetics companies. The last risk is an inflationary risk – if inflation increases, the raw material increases, and production costs. Moreover, it is worth mentioning that there are more risks such as credit, political, and exchange risks that can influence the stocks on the market.On the other hand, portfolio risk is defined as the probability of the assets that the company holds sinking, which is caused by significant loss to the company in the meaning of its investment being lost (CFaJOURNAL, N/A). According to Washington (2020), the types of risk management are external (such as – political influence, recession, regulatory changes, legal requirements), internal such as (operation challenges, leadership changes, portfolio governance, financial health); and execution-related risks (such as project risk, resource capacity risk or project dependencies).
Resources:Abhishek K. (2018, February 26). 7 Types of Risk Involved in Stocks that You Should Know,…
CFaJOURNAL. (N/A). What is Portfolio Risk, and how is it calculated?
Washington T. (2020, May 4). PPM 101 – Portfolio Risk Management,…
by Ngoc DinhLearning Engagement # 3
TOPIC: Whether risk of a security/stock is same in isolation andas a part of a portfolio?
The risk of the asset held in isolation is not relevant under the CAPM. According to the Capital Asset Pricing Model, investors are primarily concerned with portfolio risk, not the risks of individual stocks held in isolation. All financial assets can be examined in the context of a broader portfolio or on a stand-alone basis when the asset in question is thought to be isolated. For a company, computing standalone risk can help determine a project’s risk as if it were operating as an independent entity. Thus, the relevant risk of a stock is the stock’s contribution to the riskiness of a well-diversified portfolio (Chen, 2020).
Although it is often used in different contexts, risk is the possibility that an outcome will not be as expected, specifically in reference to returns on investment in finance. However, there are several different kinds of risk, including investment risk, market risk, inflation risk, business risk, liquidity risk, and more. Generally, individuals, companies, or countries incur the risk that they may lose some or of an investment (Sraders, 2019).
An investor may hold a security in isolation or he/she may hold it as a part of a portfolio. What impact it may have as to the risk exposure of the investor holding that security?
Investors who hold a stock for a long period of time can benefit from quarterly dividends and potential price appreciation over time. Even if a stock is given a hold recommendation and remains flat, if it pays a dividend, the investor can still profit. For fundamental investors, it is generally better to hold stocks for the long term, meaning at least months and preferably a decent number of years. Holding stocks for short time periods is considered speculating rather than investing and will essentially increase your risk of losing money in the long run (Sutherland, 2012).
On the other hand, having too much stock equals extra expense for you as it can lead to a shortfall in your cash flow and incur excess storage costs. Having too little stock equals lost income in the form of lost sales, while also undermining customer confidence in your ability to supply the products you claim to sell.
How do you define risk of a security?
Risk of a security/stock is when a company doesn’t do well or falls out of favor with investors, its stock can fall in price, and investors could lose money. Whether it be the risk of an accelerated inflation rate or a volatile stock, risk is a huge factor to examine and understand when getting into the market (or even as a business or corporation). And in recent years, with trade wars and questionable interest rates, it seems as though risk may be more of a prevalent topic when it comes to placing your money in an investment vehicle – or even starting a business (Nikolas, 2020).
Beta and standard deviation are two tools commonly used to measure stock risk. Beta, which can be found in several published services, is a statistical measure of the impact stock market movements have historically had on a stock’s price.
How do you define risk of a portfolio?
Portfolio risk is a chance that the combination of assets or units, within the investments that you own, fails to meet financial objectives. Each investment within a portfolio carries its own risk, with a higher potential return typically meaning higher risk. In theory, portfolio risk can be eliminated by successful diversification: holding combinations of investments that do not depend on the same circumstances to return a profit. Though, it is more probable that risks will be minimized and not eliminated entirely.
The most important quality of portfolio variance is that its value is a weighted combination of the individual variances of each of the assets adjusted by their covariances. This means that the overall portfolio variance is lower than a simple weighted average of the individual variances of the stocks in the portfolio (Hayes, 2021).
How do you calculate portfolio risk? The level of risk in a portfolio is often measured using standard deviation, which is calculated as the square root of the variance. If data points are far away from the mean, the variance is high, and the overall level of risk in the portfolio is high as well.
The formula for portfolio variance in a two-asset portfolio is as follows:
Portfolio variance = w12?12 + w22?22 + 2w1w2Cov1,2
When considering your investment risk tolerance, some simple rules to consider are:
-The greater return you want, the more risk you’ll usually have to accept.
-The higher return you want from your investments, the greater the chance of losing some or all of your initial investment (your capital) in the short term.
-If you’re saving over the short term it’s wise not to take much capital risk. So, what you are investing for and when you’ll need access to your money will have a big impact on what types of investments are right for you.
-If you are investing for the long-term you can afford to take more risks.
Investing in share-based assets has proved to be the best way of achieving growth that outstrips inflation. There is a risk attached but when you invest over the long-term, you gain time to recover your losses after the inevitable and never-ending market correction periods (Sutherland, 2012).
Chen, J. (2020). Standalone Risk. Trading Skills & Essentials. Risk Management, Investopedia.
Hayes, A. (2021). Portfolio Variance. Trading Skills & Essentials. Risk Management. Investopedia
Nikolas, S. (2020). How does market risk differ from specific risk? Trading Skills & Essentials. Investopedia.
Sutherland, S. (2012). 5 key factors that can affect your investment risk tolerance. ISACO, Ltd.
Sraders, A. (2019). What Is Risk? Definition, Types and Examples. TheStreets., Inc.



Content (worth a maximum of 50% of the total points)
Zero points:  Student failed to submit the final paper.
20 points out of 50:  The essay illustrates poor understanding of the relevant material by failing to address or incorrectly addressing the relevant content; failing to identify or inaccurately explaining/defining key concepts/ideas; ignoring or incorrectly explaining key points/claims and the reasoning behind them; and/or incorrectly or inappropriately using terminology; and elements of the response are lacking.
30 points out of 50:  The essay illustrates a rudimentary understanding of the relevant material by mentioning but not full explaining the relevant content; identifying some of the key concepts/ideas though failing to fully or accurately explain many of them; using terminology, though sometimes inaccurately or inappropriately; and/or incorporating some key claims/points but failing to explain the reasoning behind them or doing so inaccurately.  Elements of the required response may also be lacking.
40 points out of 50:  The essay illustrates solid understanding of the relevant material by correctly addressing most of the relevant content; identifying and explaining most of the key concepts/ideas; using correct terminology; explaining the reasoning behind most of the key points/claims; and/or where necessary or useful, substantiating some points with accurate examples.  The answer is complete.
50 points:  The essay illustrates exemplary understanding of the relevant material by thoroughly and correctly addressing the relevant content; identifying and explaining all of the key concepts/ideas; using correct terminology explaining the reasoning behind key points/claims and substantiating, as necessary/useful, points with several accurate and illuminating examples.  No aspects of the required answer are missing.

Use of Sources (worth a maximum of 20% of the total points).
Zero points:  Student failed to include citations and/or references. Or the student failed to submit a final paper.
5 out 20 points:  Sources are seldom cited to support statements and/or format of citations are not recognizable as APA 6th Edition format. There are major errors in the formation of the references and citations. And/or there is a major reliance on highly questionable. The Student fails to provide an adequate synthesis of research collected for the paper.
10 out 20 points:  References to scholarly sources are occasionally given; many statements seem unsubstantiated.  Frequent errors in APA 6th Edition format, leaving the reader confused about the source of the information. There are significant errors of the formation in the references and citations. And/or there is a significant use of highly questionable sources.
15 out 20 points:  Credible Scholarly sources are used effectively support claims and are, for the most part, clear and fairly represented.  APA 6th Edition is used with only a few minor errors.  There are minor errors in reference and/or citations. And/or there is some use of questionable sources.
20 points:  Credible scholarly sources are used to give compelling evidence to support claims and are clearly and fairly represented.  APA 6th Edition format is used accurately and consistently. The student uses above the maximum required references in the development of the assignment.

Grammar (worth maximum of 20% of total points)
Zero points:  Student failed to submit the final paper.
5 points out of 20:  The paper does not communicate ideas/points clearly due to inappropriate use of terminology and vague language; thoughts and sentences are disjointed or incomprehensible; organization lacking; and/or numerous grammatical, spelling/punctuation errors
 10 points out 20:  The paper is often unclear and difficult to follow due to some inappropriate terminology and/or vague language; ideas may be fragmented, wandering and/or repetitive; poor organization; and/or some grammatical, spelling, punctuation errors
15 points out of 20:  The paper is mostly clear as a result of appropriate use of terminology and minimal vagueness; no tangents and no repetition; fairly good organization; almost perfect grammar, spelling, punctuation, and word usage.
20 points:  The paper is clear, concise, and a pleasure to read as a result of appropriate and precise use of terminology; total coherence of thoughts and presentation and logical organization; and the essay is error free.

Structure of the Paper (worth 10% of total points)
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5 points out of 10: Appearance of final paper demonstrates the student’s limited ability to format the paper. There are significant errors in formatting and/or the total omission of major components of an APA 6th edition paper. They can include the omission of the cover page, abstract, and page numbers. Additionally the page has major formatting issues with spacing or paragraph formation. Font size might not conform to size requirements.  The student also significantly writes too large or too short of and paper
7 points out of 10: Research paper presents an above-average use of formatting skills. The paper has slight errors within the paper. This can include small errors or omissions with the cover page, abstract, page number, and headers. There could be also slight formatting issues with the document spacing or the font Additionally the paper might slightly exceed or undershoot the specific number of required written pages for the assignment.
10 points: Student provides a high-caliber, formatted paper. This includes an APA 6th edition cover page, abstract, page number, headers and is double spaced in 12’ Times Roman Font. Additionally, the paper conforms to the specific number of required written pages and neither goes over or under the specified length of the paper.

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