Case study Essay Example
CASE STUDY: ALEX SHARPE’S PORTFOLIO 6
CASE STUDY: ALEX SHARPE’S PORTFOLIO
Table 1 below shows the summary of the descriptive statistics of the indicated three investment portfolios.
Given that Sharpe had invested 99% of the fund in S&P 500, and the remaining 1% in either Reynolds or Hasbro; his Portfolio position would be given as follows;
0.99 = S&P 500
0.01 = Reynolds or Hasbro
S&P 500 = 0.57%
Reynolds = 1.87%
Hasbro = 1.18%
Resulting Portfolio position
Choice: S&P 500 and Reynolds
Portfolio’s return = 0.99(0.57) + 0.01(1.87)
Portfolio’s return = 0.5643 + 0.0187
Portfolio’s return = 0.583
Portfolio’s return = 58.3%
Choice: S&P 500 and Hasbro
Portfolio’s return = 0.99(0.57) + 0.01(1.18)
Portfolio’s return = 0.5643 + 0.0118
Portfolio’s return = 0.5761
Portfolio’s return = 57.61%
The return of the equity investment of S&P 500 and Reynolds is 58.3%, while that of S&P 500 and Hasbro is 57.61%. In addition, the standard deviation of Reynolds is 9.63, which is higher than the standard deviation of 8.12 for Hasbro. Therefore, the higher variability of returns for Reynolds implies that the Reynolds stock is a riskier investment compared to Hasbro which has less variability and low risk associated with it.
Figure 1 shows the regression summary for the S&P 500 index returns against the Reynolds stock investment portfolio.
Reynolds’ beta = 0.74
Figure 2 shows the regression summary for the S&P 500 index returns against Hasbro investment portfolio.
Hasbro beta = 1.42
As indicated from the regression statistics in figure 1 and 2 above, the Hasbro stock investment portfolio has a higher beta (1.42) than the Reynolds stock investment portfolio, which has a beta of 0.75. This indicates that Hasbro stock is more positively correlated to S&P 500 index, compared to Reynolds stock. Therefore, based on the beta value, the Hasbro stock can be said to have the highest risk compared to Reynolds stock. In question 1, it was established that Reynolds stock is a more risky stock to invest in compared to Hasbro, based on the average returns and its variability. However, based on the beta value, Reynolds stock has a smaller beta value compared to Hasbro, hence, it is less positively correlated with S&P 500 index returns. This implies that the Reynolds stock is a less risky stock than Hasbro.
The more suitable stock that Sharpe should invest in is the Reynolds stock. This is because it has a higher return compared to the Hasbro stock. In addition, the beta value of Reynolds stock is less than one (0.74), which indicates that the Reynolds stock is less volatile than the benchmark (S&P 500 index). On the other hand, Hasbro stock is highly volatile, since it has a beta value of more than one (1.42). Therefore, based on volatility and expected returns, the Reynolds stock is the better stock that Sharpe should invest in, because of the higher average returns and lower volatility that is associated with the Reynolds stock.
Hallerbach, G.W 2003, Holding Period Return-Risk Modelling: Ambiguity in Estimation.
Shim, JK & Siegel, JG 2008, Financial Management, Barron’s Educational Series.
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