Thị trường tài chính và các định chế tài chính_ Chapter 11

Chapter Outline Stock valuation methods  Determining the required rate of return to value stocks  Factors that affect stock prices  Role of analysts in valuing stocks  Stock risk 

Chapter 11

Stock Valuation and Risk

Chapter Outline

 Stock valuation methods

 Determining the required rate of return to value stocks

 Factors that affect stock prices

 Role of analysts in valuing stocks

 Stock risk

 Applying value at risk

 Forecasting stock price volatility and beta

 Stock performance measurement

 Stock market efficiency

Stock Valuation Methods

mean PE ratio based on expected earnings of all traded competitors to the firm’s expected

earnings for the next year

 Assumes future earnings are an important

determinant of a firm’s value

 Assumes that the growth in earnings in future years will be similar to that of the industry

Stock Valuation Methods (cont’d)

 Reasons for different valuations

 Investors may use different forecasts for the firm’s earnings or the mean industry earnings

 Investors disagree on the proper measure of earnings

 Limitations of the PE method

 May result in inaccurate valuation for a firm if errors are made in forecasting future earnings or in choosing the industry composite

Some question whether an investor should trust a PE ratio

Valuing A Stock Using the PE

Method

A firm is expected to generate earnings of $2 per share next year The mean ratio of share price

to expected earnings of competitors in the

same industry is 14 What is the valuation of

the firm’s shares according to the PE method

?

$28 14

$2

ratio) PE

industry (Mean

share) per

firm of

earnings Expected

( share per

Stock Valuation Methods (cont’d)

 John Williams (1931) stated that the price of a stock should reflect the present value of the stock’s future dividends:

 D can be revised in response to uncertainty about the

firm’s cash flows

 k can be revised in response to changes in the required

k

Stock Valuation Methods (cont’d)

 For a constant dividend, the cash flow is a

g k

D k

Valuing A Stock Using the

Dividend Discount Model

Example 1: A firm is expected to pay a dividend

of $2.10 per share every year in the

foreseeable future Investors require a return

of 15% on the firm’s stock According to the

dividend discount model, what is a fair price

for the firm’s stock

?

Valuing A Stock Using the

Dividend Discount Model

Example 2: A firm is expected to pay a dividend

of $2.10 per share in one year In every

subsequent year, the dividend is expected to

grow by 3 percent annually Investors

require a return of 15% on the firm’s stock

According to the dividend discount model,

what is a fair price for the firm’s stock

?

50 17

$

% 3

% 15

10 2

$ )

1 (

D k

D

t

Stock Valuation Methods (cont’d)

 Relationship between dividend discount model

Stock Valuation Methods (cont’d)

 Limitations of the dividend discount model

 Errors can be made in determining the:

 Dividend to be paid

 Growth rate

 Required rate of return

 Errors are more pronounced for firms that retain most of their earnings

Stock Valuation Methods (cont’d)

 The value of the stock is:

 The PV of the future dividends over the investment horizon

 The PV of the forecasted price at which the stock will

be sold

 Must estimate the firm’s EPS in the year they plan to sell the stock by applying an annual growth rate to the

prevailing EPS

Using the Adjusted Dividend

Discount Model

Parker Corp currently has earnings of $10 per

share Investors expect that the EPS will

growth by 3 percent per year and expect to

sell the stock in four years What is the EPS

in four years

?

26.11

$)

03.1(10

$

)1

( years

ninearnings

Using the Adjusted Dividend

Discount Model (cont’d)

Other firms in Parker’s industry have a mean PE

ratio of 7 What is the estimated stock price in

four years

?

82 78

$ 7

26 11

$

industry) of

ratio (PE

years) 4

in Earnings (

years 4

in price

Using the Adjusted Dividend

Discount Model (cont’d)

Parker is expected to pay a dividend of $2 per

share over the next four years Investors

require a return of 13% on their investment

Based on this information, what is a fair value

of the stock according to the adjusted

dividend discount model

?

29.54

$

)13.1(

82.78

$)

13.1(

2

$)

13.1(

2

$)

13.1(

2

$)

13.1(

2

$

4 4

3 2

Stock Valuation Methods (cont’d)

 Errors can be made if an improper required rate of return is used

Determining the Required Rate of Return to Value Stocks

 Assumes that the only important risk is systematic

risk

 Is not concerned with unsystematic risk

 Suggests that the return on an asset is influenced

by the prevailing risk-free rate, the market return,

and the covariance between a stock’s return and the market’s return:

) ( m f

j f

Determining the Required Rate of Return to Value Stocks (cont’d)

 The capital asset pricing model (cont’d)

 Estimating the risk-free rate and the market risk premium

 The yield on newly issued T-bonds is commonly used as a proxy for the risk-free rate

 The terms within the parentheses measure the market risk premium

 Historical data over 30 or more years can be used to determine the average market risk premium over time

 Estimating the firm’s beta

 Beta reflects the sensitivity of the stock’s return to the market’s overall return

Using the CAPM

Fantasia Corp has a beta of 1.7 The prevailing

risk-free rate is 5% and the market risk

premium is 5% What is the required rate of

return of Fantasia Corp according to the

CAPM

?

% 5 13

%) 5

% 10 ( 7 1

% 5

) (

Determining the Required Rate of Return to Value Stocks (cont’d)

 Limitations of the CAPM

 A study by Fama and French found that beta is unrelated

to the return on stock over the 1963–1990 period

 Chan and Lakonishok:

 Found that the relation between stock returns and beta varied with the time period used

 Concluded that it is appropriate to question whether beta is the driving force behind stock returns

 Found that firms with the highest betas performed much

Determining the Required Rate of Return to Value Stocks (cont’d)

 Suggests that a stock’s price can be influenced by a set of factors in addition to the market

 e.g., economic growth, inflation

 In equilibrium, expected returns on assets are

linearly related to the covariance between assets

returns and the factors:

i

iF B B

R

E

1 0

) (

Factors That Affect Stock Prices

 Impact of economic growth

 An increase in economic growth increases expected cash flows and value

 Indicators such as employment, GDP, retail sales, and personal income are monitored by market participants

 Impact of interest rates

 Given a choice of risk-free Treasury securities or stocks, stocks should only be purchased if they offer a sufficiently

Factors That Affect Stock Prices

(cont’d)

 Impact of the dollar’s exchange rate value

 The value of the dollar affects U.S stocks because:

 Foreign investors purchase U.S stocks when the dollar is weak

 Stock prices are affected by the impact of the dollar’s changing value on cash flows

 Some U.S firms are involved in exporting

 U.S.-based MNCs have some earnings in foreign currencies

 Exchange rates may affect expectations of other economic factors

Factors That Affect Stock Prices

Factors That Affect Stock Prices

(cont’d)

 Firm-specific factors

 Some firms are more exposed to conditions within their own

industry than to general economic conditions, so participants monitor:

 Industry sales forecasts

 Entry into the industry by new competitors

 Price movements of the industry’s products

 Market participants focus on announcements that signal

information about a firm’s sales growth, earnings, or

characteristics that cause a revision in the expected cash

flows

Factors That Affect Stock Prices

(cont’d)

 Firm-specific factors (cont’d)

 Dividend policy changes

 An increase in dividends may reflect the firm’s expectation that it can more easily afford to pay dividends

 Earnings surprises

 When a firm’s announced earnings are higher than expected, investors may raise their estimates of the firm’s future cash flows

 Acquisitions and divestitures

 Expected acquisitions typically result in an increased demand for the target’s stock and raise the stock price

 The effect on the acquiring firm is less clear

 Expectations

Factors That Affect Stock Prices

(cont’d)

 Whenever economic indicators signal the

expectation of higher interest rates, there is upward pressure on the required rate of return

 Firms’ expected future cash flows are influenced by economic conditions, industry conditions, and firm-

specific conditions

Role of Analysts in Valuing Stocks

 Many investors rely on opinions of stock analysts

employed by securities firms or other financial firms

 Many analysts are assigned to specific stocks and

issue ratings that can indicate whether investors should buy or sell the stock

 A 2001 study by Thomson Financial determined that

analysts at the largest brokerage firms typically

recommended “sell” for less than 1 percent of all the

stocks for which they provided ratings

Role of Analysts in Valuing Stocks (cont’d)

 Conflicts of interest

 Many analysts are employed by securities firms that have other

investment banking relationships with rated firms

 Some analysts may own the stock of some of the firms they rate

 Impact of disclosure regulations

 In October 2000, the SEC enacted Regulation FD, which requires

firms to disclose any significant information simultaneously to all

market participants

 Unbiased analyst rating services

 Popular rating services include Morningstar, Value Line, and

Investor’s Business Daily

 Analyst rating services typically charge subscribers between $100

and $600 per year

Stock Risk

 Risk reflects the uncertainty about future returns such that the actual return may be less than expected

 The holding period return is measured as:

 The main source of uncertainty is the price at which the stock can be sold

 Dividends tend to be much more stable than stock price

INV

D INV

SP

R  (  ) 

Stock Risk (cont’d)

 The volatility of a stock:

 May indicate the degree of uncertainty surrounding the stock’s future returns

 Reflects total risk because it reflects movements in stock prices for any reason

Stock Risk (cont’d)

 The volatility of a stock portfolio depends on:

 The volatility of the individual stocks in the portfolio

 The correlations between returns of the stocks in the portfolio

 The proportion of total funds invested in each stock

 A portfolio containing some stocks with low or negative correlation will exhibit less volatility

Stock Risk (cont’d)

 The beta of a stock:

 Measures the sensitivity of its returns to market returns

 Is used by many investors who have a diversified portfolio

of stocks

 Can be estimated by obtaining returns of the firm and the stock market and applying regression analysis to derive the slope coefficient:

t mt

Stock Risk (cont’d)

 The beta of a stock portfolio:

 Is useful for investors holding more than one stock

 Can be measured as a weighted average of the betas of stocks in the portfolio, with the weights reflecting the

proportion of funds invested in each stock:

 The risk of a high-beta portfolio can be reduced by replacing



B

Stock Risk (cont’d)

 Measures of risk (cont’d)

 Value at risk:

 Is a risk measurement the estimates the largest expected loss to

a particular investment position for a specified confidence level

 Became very popular in the late 1990s after some mutual funds and pension funds experienced abrupt large losses

 Is intended to warn investors about the potential maximum loss that could occur

 Focuses on the pessimistic portion of the probability distribution of returns

 Is commonly used to measure the risk of a portfolio

Applying Value at Risk

7 percent on 5 different days

 The investor could infer a maximum daily loss of no more than 7 percent for that stock based on a 95 percent

Applying Value at Risk (cont’d)

expected loss (cont’d)

 Use of standard deviation to derive the maximum

expected loss

 The standard deviation of daily returns over the previous period can be used and applied to derive boundaries for a specific confidence level

 Use of beta to derive the maximum expected loss

Using the Standard Deviation to

Derive the Maximum Expected Loss

The standard deviation of daily returns for a

stock in a recent period is 1% The 95%

confidence level is desired for the maximum

loss The stock has an expected daily return

of 1% What is the lower boundary of

expected returns

?

Using Beta to Derive the Maximum Expected Loss

A stock’s beta over the last 100 days is 1.3 The stock market is expected to perform no worse

than –2.1% on a daily basis based on a 95%

confidence level What is the maximum loss

to the stock over a given day based on this

information

?

% 73 2

%) 1

2 (

3

1    

Applying Value at Risk (cont’d)

 Deriving the maximum dollar loss

 The maximum percentage loss for a given confidence level

can be applied to derive the maximum dollar loss of a

particular investment

 Value at risk is commonly applied to assess the maximum

possible loss for an entire portfolio

 Common adjustments to value at risk applications

 Investment horizon desired

 Length of historical period used

 Time-varying risk

Forecasting Stock Price Volatility

and Beta

 Methods of forecasting stock price volatility

 The historical method uses a historical period to derive a

stock’s standard deviation of returns and uses that estimate as the forecast for the future

 The time-series method uses volatility patterns in previous

periods

 Places more weight on the most recent data

 Normally uses the weights and number of periods that were the most accurate in previous periods

 The implied standard deviation derives the estimate from the stock option pricing model

 Represents the anticipated volatility of the stock over a future period by investors trading the stock

Forecasting Stock Price Volatility

and Beta (cont’d)

 Portfolio volatility can be forecast by first deriving

forecasts of individual volatility levels

 Next, the correlation coefficient for each pair of

stock in the portfolio is forecast by estimating the

correlation in recent periods

 First forecast the betas of the individual stocks and

Stock Performance Measurement

 The Sharpe index is appropriate when total variability is thought to be the appropriate measure of risk:

 The higher the stocks’ mean return relative to the mean

risk-free rate and the lower the standard deviation, the higher the Sharpe index

 Measures the excess return above the risk-free rate per period

Using the Sharpe Index

Patrick stock has an average return of 15% and

an average standard deviation of 13% The

average risk-free rate is 8% What is the

Sharpe index for Patrick stock

?

%8

%15

Stock Performance Measurement (cont’d)

thought to be the most appropriate type of risk:

 The higher the Treynor index, the higher the return relative to the risk-free rate, per unit of risk

B

R

R  f

 index Treynor

Using the Treynor Index

Patrick stock has an average return of 15% and

a beta of 1.8 The average risk-free rate is

8% What is the Sharpe index for Patrick