FIN 104 - MEASURING RETURN (FINALS)

Required return

The rate of return an investor must earn in an investment to be fully compensated for its risk.

real rate of return, expected inflation premium, risk premium on investment

3 important components of required return

Real rate of return

The rate of return that could be earned in a perfect world where all outcomes are known and certain - where there was no risk.

Expected inflation premium

The average rate of inflation expected in the future.

Risk-free rate

The sum of real rate of return and expected inflation premium

Risk premium

A return premium that reflects the issue and issuer characteristics associated with a given investment vehicle.

Holding period

The period of time over which one wishes to measure the return on an investment vehicle.

Length of time

It is important to note that when comparing holding period, be sure to use the same ___________.

Realized income

Current income actually received by an investor during a given period.

Paper return

A return that has been achieved but not yet realized by an investor during a given period.

Holding period return

The total return earned from holding an investment for a specified holding period (usually 1 year or less).

End of year - beginning of year

how to compute for the capital gains (losses)

Capital gains (losses) + current income

How to compute for total return

Total return ÷ beginning of year

How to compute for holding period return

Yield (internal rate of return)

The compound annual rate of return earned by a long-term investment; the discount rate that produces a present value of the investment’s benefit that just equals its cost.

Rate of growth

The compound annual rate of change in the value of a stream of income.