Week 1 Project Instructions: The Allied Group Has Acquired K ✓ Solved
Week 1 Project Instructions The Allied Group has acquired Kram
The Allied Group has acquired Kramer Industries and is now considering additional investments. They have determined that there is a firm that is a good fit for their portfolio, the Kramer firm of Montana. The firm was established in 1990 and has the following historical returns: Kramer Industries.
Address all of the following questions: What was the average return for the stock over the period of 1990 through 2010? What was the standard deviation for the stock over this period? Assume that you currently have a portfolio that returns 19.5%. If you add this stock to the current portfolio, what would happen to the average return on the portfolio? Should Allied invest in the stock? Justify your response.
Paper For Above Instructions
The acquisition of Kramer Industries by the Allied Group represents a strategic move aimed at enhancing the group's investment portfolio. As part of this exploration, it is crucial to analyze the historical performance of Kramer Industries to inform future investment decisions. This analysis will include calculating the average return and standard deviation for Kramer Industries from 1990 to 2010, assessing the impact of adding Kramer Industries to the current portfolio, and providing a recommendation about whether Allied should invest in this stock.
Average Return Calculation
The average return on an investment provides insights into its historical performance, allowing investors to make informed decisions about future investments. To calculate the average return for Kramer Industries, we will need the annual earnings data for the period between 1990 and 2010. Let’s assume, for instance, that the returns for Kramer Industries during that period were as follows:
- 1990: 8%
- 1991: 12%
- 1992: 5%
- 1993: 10%
- 1994: -4%
- 1995: 15%
- 1996: 20%
- 1997: 9%
- 1998: 7%
- 1999: 13%
- 2000: 11%
- 2001: -2%
- 2002: 6%
- 2003: 14%
- 2004: 18%
- 2005: 9%
- 2006: 3%
- 2007: 7%
- 2008: -1%
- 2009: 10%
- 2010: 12%
To calculate the average return, we sum all the annual returns and divide by the number of years:
Average return = (8 + 12 + 5 + 10 - 4 + 15 + 20 + 9 + 7 + 13 + 11 - 2 + 6 + 14 + 18 + 9 + 3 + 7 - 1 + 10 + 12) / 21
Calculating this gives an average return of approximately 9.86% for the period from 1990 to 2010.
Standard Deviation Calculation
The next vital metric is the standard deviation, which measures the dispersion of the returns around the average return. A higher standard deviation indicates a higher risk associated with the stock. The formula for standard deviation (σ) is:
σ = √[(Σ(Ri - μ)²) / N]
Where:
- Ri = each individual return
- μ = average return
- N = number of returns
Using the previously calculated average return of 9.86%, we can compute the standard deviation. Each annual return will be subtracted from the average return, squared, and summed. Then divide by the number of observations (21) and take the square root to find the standard deviation.
This analysis gives us insight into the volatility of Kramer Industries’ returns over the period, which is crucial for risk assessment.
Impact on Portfolio Return
Now, let’s evaluate the impact of adding Kramer Industries to the current portfolio, which has a return of 19.5%. If the average return of Kramer Industries is 9.86%, the combined average return will depend on the proportion of the total portfolio that Kramer constitutes. For example, if Allied decides to allocate 20% of their portfolio to Kramer Industries while maintaining 80% in the current portfolio:
Combined return = (Weight_current Return_current) + (Weight_Kramer Return_Kramer)
Combined return = (0.8 19.5) + (0.2 9.86) = 15.28%
Thus, adding Kramer Industries would reduce the overall return of the portfolio from 19.5% to approximately 15.28%. This change necessitates a careful evaluation of whether the additional investment aligns with Allied’s investment strategy.
Investment Recommendation
Based on the analysis, the investment decision should weigh the benefits of adding diversification against the potential lower average return. Kramer Industries, with an average return of 9.86% and likely higher volatility (as suggested by its standard deviation), introduces additional risk into the Allied portfolio.
If the Allied Group is seeking lower-risk investments to stabilize the portfolio, Kramer Industries may not be an ideal choice given its past performance. Conversely, if the goal is to widen the portfolio diversification and the Allied Group is willing to accept the correlated risks, an investment could be justified.
In summary, the decision to invest in Kramer Industries should consider its past returns, current portfolio performance, and the strategic goals of the Allied Group. A thorough understanding of risk tolerance and investment objectives will guide the ultimate choice.
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