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CHAPTER 8: Risk and Rates of Return Updated: August 3, 2012

Investment returns. The rate of return on an investment can be calculated as follows:(Amount received ? Amount invested)Return = ________________________ Amount investedFor example, if $1,000 is invested and $1,100 is returned after one y

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CHAPTER 8: Risk and Rates of Return Updated: August 3, 2012

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    1. CHAPTER 8: Risk and Rates of Return Updated: August 3, 2012 All Financial Assets Produce CFs Risk of Asset Depends on Risk of CFs Stand-alone Risk of Asset’s CFs Portfolio Risk of CFs Diversifiable and Market Risk Risk & return: CAPM / SML

    2. Investment returns The rate of return on an investment can be calculated as follows: (Amount received – Amount invested) Return = ________________________ Amount invested For example, if $1,000 is invested and $1,100 is returned after one year, the rate of return for this investment is: ($1,100 - $1,000) / $1,000 = 10%.

    3. What is investment risk? Two types of investment risk Stand-alone risk Portfolio risk Investment risk is related to the probability of earning a low or negative actual return. The greater the chance of lower than expected or negative returns, the riskier the investment. Risk = Dispersion of Returns around mean, or expected mean: variance or standard deviation

    4. Probability distributions A listing of all possible outcomes, and the probability of each occurrence. Can be shown graphically.

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