Case Study on Risk and Return Essay

Words: 3072
Pages: 13

Powerline Network Corporation—Case Two: Risk and Return
Thomas Calderone, CJ Anderson, and Megan Wegener
FIN 480: Finance Capstone Course
Professor Randy Lewis
Spring Arbor University
February 7, 2013

Powerline Network Corporation: Risk and Return
The topics of risk and return are crucial to financial management because it allows a company to maximize stock value—in which risk is a determinant value, the rate of return in which investors require on various types of securities depends on their individual risks; and common and preferred stocks, bonds, and mutual funds are use for multiple things—401 K plans, for example— and each incur a certain amount of risk that are inherent to the type of investment. It is also
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Outplace, with a beta of -0.99 and a required return of 2.06%, is above the SML—which indicates that it is undervalued. Games, with a beta of 1.47 and a required return of 11.89% falls below SML, which indicates that it is overvalued and is predicted to offer a lesser return for risk taking. The different securities in our portfolio do not appear to be in equilibrium due to having two securities above the SML a substantial amount more than the third security is below the SML. Since the securities do not appear to be in equilibrium, the problem could potentially be with the inconsistent and non-related data. Also, the marginal investor’s expectations may affect this due to the conflicting assumptions on the data. Since the investor’s expectations lie in two different data tables, which look at different variables, the problem may also lie in the incorrect assumptions.
Issue Six: Required Return
Inflation increases with a growth in the economy due to lowered interest rates. With this situation, more people are able to borrow more money and hence, consumers would have more money to spend. Market risk premium tends to have the same value for all investors since its value is based on what actually happened in the market. However, the overall return/premium will vary and differ from person to person due to different risk tolerances and investing styles. The effects of the securities required returns would be the same with an increase in inflation.