Investments Fin 201a Syllabus (subject to change) Fall 2018 Prof. Anna Scherbina

Transcription

1 Investments Fin 201a Syllabus (subject to change) Fall 2018 Prof. Anna Scherbina Brandeis International Business School Teaching Assistants: Wanmei (May) Ding Jingyan (Janice) Huang Jonathan Kabeya Xiaojie Zheng Course Description This course aims at developing key concepts in investment theory from the perspective of a portfolio manager rather than an individual investor. The goal of this class is to provide students with a structure for thinking about investment theory and with the framework for addressing investment problems in a systematic manner. Course Materials Textbook: Connect link: HBS case studies: Investments by Bodie, Kane and Marcus, 11 th edition Prerequisites and Co-requisites: ECON 210f (may be taken concurrently). The course may not be taken for credit by students who have previously taken ECON 171a. Learning Goals: Understand the fundamental principles of investment in financial markets o how investors make investment decisions o what determines returns and asset valuations Increase understanding of current events in financial markets 1

2 Class Participation Class participation is a very important part of the learning process in this course. A major part of your final grade (30%) will be based on an assessment of the quality of your contributions to class discussions. If you have a compelling reason for missing a class, you should inform me in advance ( is best). Missing classes will affect your grade; missing any without reasonable cause is likely to do so significantly (see participation grading scheme below). If you absolutely need to miss a class, please let me know ahead of time. Homework There will be several homework assignments. Basic knowledge of all course material covered in prior classes will be tested. Midterm There will be one in-class midterm. It will cover all topics presented up to that point. Final The final exam will cover all topics presented in the course. Office Hours Office hours will be held on Wednesdays, 4 pm to 5 pm or by appointment. Please let me know if you are planning to come to my office hours so that I can manage the schedule. Evaluation Final grades will be computed according to the following formula: Individual participation 30% Homework 15% Midterm Exam 20% Final Exam 35% TOPICS COVERED: The course will cover the following topics: Risk and return; diversification Capital Asset Pricing Model Performance evaluation; active investment management Stock valuation; valuation multiples Market efficiency; behavioral finance 2

3 LIST OF CASES: In this course, we will analyze the following cases: Partners Healthcare Hurricane Risk Massachusetts General Hospital and the Enbrel Royalty Carol Brewer s Investments Eskimo Pie Corporation (Abridged) Health Development Corp. Dimensional Fund Advisers (DFA) Please use this link to download these cases and case supplements from Harvard Business Publishing: COURSE OUTLINE: Introduction to Investments Review of probability and statistics Fundamental tools and concepts in Investments o Read Chapter 5 Risk, Return and the Historical Record HOMEWORK 1 Combining risky assets o Read Chapters 6 Capital Allocation to Risky Assets and Chapter 7 Optimal Risky Portfolios o Case: Partners Healthcare HOMEWORK 2 The Capital Asset Pricing Model o Read Chapter 9 The Capital Asset Pricing Model o Case: Hurricane Risk HOMEWORK 3 o Case: Massachusetts General Hospital and the Enbrel Royalty MIDTERM EXAM Active vs. passive asset management; performance evaluation o Read Chapter 4 Mutual Funds and Other Investment Companies and Section 24.1 of Chapter 24 The Conventional Theory of Performance Evaluation o Case: Carol Brewer s Investments HOMEWORK 4 Equity valuation; financial intermediation o Read Chapter 18 Equity Valuation Models and Section 1.6 of Chapter 1 The Players o Case: Eskimo Pie Corporation (Abridged) 3

4 o Case: Health Development Corp. HOMEWORK 5 Multifactor models o Read Section 13.3 of Chapter 13 Fama-French-Type Factor Models o Case: Dimensional Fund Advisers (DFA) CASE QUESTIONS: Partners Healthcare (HBS Case number ) 1. Based on what we have done so far in class, must it be that the required return (discount rate) of any asset be related to its risk? Could it be that some assets with high standard deviations of return rationally have low expected returns? 2. Suppose that there are two assets: A and P. Assume that asset P has a standard deviation of returns of 20% per annum. You invest faction x or your wealth in asset A and (1-x) in asset P. Suppose that x is in the rage 0-3%. a. How does the risk of the portfolio change with x if asset A is riskless? b. How does the risk of the portfolio change with x if asset A is risky, with a standard deviation of 50% p.a., but with a zero correlation with asset P? c. How does the risk of the portfolio change if, instead of zero, asset A has a correlation of 0.6 with asset P? d. How does the risk of the portfolio change if asset A is perfectly correlated with asset P and has a standard deviation of 30%? Do the same for x in the range of 3%-50%. For small x, why are the answers similar for (a) and (b), and also (c) and (d), but not for large x? Hurricane Risk (HBS Case number ) 1. What is the P&C business model? Why do insurance companies exist? How do they make money? 2. Is purchasing insurance an investment? As a policy holder, what is the expected return from investing in insurance? 3. What would be your personal required rate of return? 4. What should Joe Martinez do? 5. What should Suzanne Feller do? Massachusetts General Hospital and the Enbrel Royalty (HBS Case number ) 1. Why does MGH want to sell Enbrel royalties? Why would anyone want to buy them? 2. Is the issue of being undevirsified unique to MGH? 3. If the best offer is $400 mil., should MGH accept it? 4

5 a. Forecast the cash flows b. What s the right discount rate to use? Case: Carol Brewer s Investments (HBS Case number ) 1. How did Marshfield perform? Did its investments out-perform or underperform the market? 2. Suppose Marshfield charges a fee of 1% and a passive index fund would charge a fee of 0.15%. Is that difference in fees significant? 3. Define the following terms: return, mean return, return variance, standard deviation of returns, covariance of returns, correlation of returns, regression analysis, beta, R-squared. 4. Using the data in Exhibit 4 of the case: a. Compute mean returns and return standard deviations for Marshfield, the S&P 500 index, and the Russell 3000 Value index. b. Compute the covariance and correlation between Marshfield and the S&P 500. c. Create an xy graph with Marshfield s Equities returns on the y- axis, and the S&P 500 returns on the x-axis. Plot the regression line (Select Chart, Add trendline, Options and click Display equation on chart as well as Display R-squared value on chart ). d. Create a column of annual returns for a portfolio that each year was invested 50% in the S&P 500 index and 50% in U.S. treasury bills, beginning in Plot these returns vs. the S&P 500 index return on the same chart as in question 4c. 5. What does this analysis tell us about Marshfield s performance? 6. Does it make sense for Carol Brewer to have reduced her allocation target for equities below 100%? 7. How have U.S. stocks performed relative to U.S. bonds over the long term? How risky are stocks versus bonds? 8. Compute mean returns and return standard deviations for each of the asset categories in U.S. Annual Returns tab of the Capital Market Returns Data spreadsheet. 9. Compute the covariance and correlation between U.S. stocks and U.S. treasury bonds. 10. Create a column of annual returns for a portfolio that each year was invested 75% in U.S. stocks and 25% in U.S. treasury bonds. Calculate the mean and standard deviation of returns for this portfolio. Do the same for other stock/bond combinations, e.g. 50%/50% stocks/bonds, 25%/75% stocks/bonds, etc. Can you explain how the mean return of the portfolio changes as the percentages in stocks and treasury bonds vary? Can you explain how the standard deviation of the portfolio changes as the percentages in stocks and treasury bonds vary? 5

6 Eskimo Pie Corporation (Abridged) (HBS Case number ) 1. What is your estimate of the per share value of Eskimo Pie using the discounted cash flow approach? Hints: a. Begin by estimating the cash flows anticipated in You should build your cash flows off the updated forecasts on page 5 of the case instead of using the information in Exhibit 6. b. The working capital listed in the balance sheet data portion of Exhibit 1 equals current assets less current liabilities, and therefore includes a substantial amount of cash. Because the business involves so little manufacturing or retailing, it is reasonable to assume that working capital (A/R plus Inventory less A/P) is negligible. c. You can also reasonably assume that capital expenditures equal depreciation. d. Choose your comparable companies from Exhibit 8, and follow the procedure we used in Ameritrade to estimate the cost of capital for Eskimo Pie. e. Use your cash flow estimate for 1992 along with your estimate of a growth rate and cost of capital in a growing perpetuity formula to estimate the discounted cash flow value of Eskimo Pie. 2. How does the value you estimated using the discounted cash flow approach compare to the market value of the comparable companies? Hints: a. Use multiples of sales and cash flows b. Consider multiples implicit in Nestle s offer for Eskimo Pie 3. Why would Nestle want to acquire Eskimo Pie? Is Eskimo Pie worth more to Nestle than it worth as a stand-alone company? 4. As an advisor to Reynolds, would you recommend the sale to Nestle or the proposed initial public offering? Case: Health Development Corporation (HBS Case number ) Case Questions: 1. Did the purchase of the Lexington Club real estate increase the pre-tax value of HDC? 2. Why does the Lexington Club real estate purchase reduce the office prices? Does it make sense? 3. How would you structure the deal? Case: Dimensional Fund Advisors (DFA) (HBS Case number ) Case Questions: 1. Are DFA investment management practices consistent with market efficiency? 2. What are the Fama-French (FF) findings? How do Fama and French explain the size and book to market effects in stock prices? Looking forward, should you expect small stocks to outperform large stocks? Value stocks to outperform 6

7 growth stocks? Do FF findings hold in other financial markets beyond the US? What are the alternative explanations for the size and value effects? 3. Visit Download returns on 25 size and book to market portfolios and then replicate the table in the class notes (the one in the value anomaly section) based on: a. the sample period starting from 1/70 b. the 1/1/90-31/12/00 period c. the period starting from 1/1/2001. Describe the size and book-to-market effects in all these periods. Method of Instruction: Instruction will be done on the basis of a combination of lectures, discussions, and problem solving. This course is fast paced, reasonably technical in nature, and it requires each student to do considerable out-of-class work. There is assigned homework required for nearly every class session. Problem solving is very important in this course and I encourage participation from all my students in this activity throughout the term. Answers to most assigned questions will be provided to students. You should read the assigned book chapters prior to coming to class. The material will mean a great deal more to you, and you will understand and retain much more of it, especially when you review the class notes and problems prior to an exam. Success in this four-credit course is based on the expectation that students will spend a minimum of 9 hours of study time per week in preparation for class. Class Format. Classes will be a mixture of lectures introducing new material and case discussions Academic Honesty. You are expected to be honest in all of your academic work. Please consult Brandeis University Rights and Responsibilities for all policies and procedures related to academic integrity. Students may be required to submit work to TurnItIn.com software to verify originality. Allegations of alleged academic dishonesty will be forwarded to the Director of Academic Integrity. Sanctions for academic dishonesty can include failing grades and/or suspension from the university. Citation and research assistance can be found at LTS - Library guides. For any work involving historical cases, under no circumstance may you search the internet (or turn to any other outside source) for any information regarding these cases without my permission. Failure to comply with this directive is cheating. Special Accommodation. If you are a student with a documented disability on record at Brandeis and wish to have a reasonable accommodation made for you in this class, please see me immediately. Please keep in mind that reasonable accommodations are not provided retroactively. Use of Laptop Computers and Cell Phones in Class: Cell phones and PDAs (i.e., Blackberrys, iphones, etc.) must be turned off during lectures. Laptops may be used only to take notes. Laptop computers and cellphones may not be used during exams. 7