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Bcom 435: Financial Modeling And Forecasting Question Paper
Bcom 435: Financial Modeling And Forecasting
Course:Bachelor Of Commerce
Institution: Chuka University question papers
Exam Year:2013
CHUKA
UNIVERSITY
UNIVERSITY EXAMINATIONS
FOURTH YEAR EXAMINATION FOR THE AWARD OF
DEGREE OF BACHELOR OF COMMERCE
BCOM 435: FINANCIAL MODELING AND FORECASTING
STREAM: BCOM Y4S1 TIME: 2 HOURS
DAY/DATE: TUESDAY 13/8/2013 2.30 PM – 4.30 PM
INSTRUCTIONS:
ANSWER QUESTION ONE AND ANY OTHER TWO QUESTIONS
QUESTION ONE [30 MARKS] COMPULSORY
(a) Explain the meaning of a model and describe the basic features of a financial model. [4 marks]
(b) Outline the basic assumptions that underlie Markowitz portfolio theory. [5 marks]
(c) The variance of a portfolio containing 2 securities ‘A’ and ‘B’ is given by
s_p^2=W_A^2 s_A^2+W_(B )^2 s_B^2 +2W_A W_B ?_((A,B) ) s_A s_B
Where W_A= Proportion of security A in the portfolio
W_B = Proportion of security B in the portfolio.
Show that when (ds^2 p)/(dW_A )=0 , W_A= (s_B^2-?_((A,B) ) s_A s_B)/(s_A^2+s_B^2-?2??_(A,B) s_A s_B ) [6 marks]
(c) You are evaluating an investment in two companies whose past ten years of returns are shown below:
Company Percent return during the year
1 2 3 4 5 6 7 8 9 10
ABC 37 24 -7 6 18 32 -5 21 18 6
XYZ 32 29 -12 1 15 30 0 18 27 10
(i) Calculate the standard deviation of each company’s returns. [6 marks]
(ii) If you placed 50% of your investment in each, what would be the standard deviation of your portfolio? [3 marks]
(iii) Calculate the correlation coefficient of the companies returns. [4 marks]
(iv) What percentage investment in each would result in the lowest risk? [2 marks]
QUESTION TWO [20 MARKS]
(a) Consider a two year put option with a strike price of shs 52 on a stock whose current price is sh 50. Suppose there are two time steps of one year each and in each step, the stock price moves up by 20% or down by 20%. The risk free rate is 5%.
Calculate the value of the put using Binomial model (Assume it is a European option). [6 marks]
(b) An investor is interested in buying a call option on ABC Ltd, a non-dividend paying common stock with a strike price of shs.100 and 6 months until expiration. ABC stock is currently trading at shs 90 per share and the annual variance of its continuously compounded returns is 25%. The treasury bills that mature in 6 months yield continuously compound interest of 10% p.a.
Required:
(i) Use black scholes model to calculate the price of the call option that the investor is interested in buying. [6 marks]
(ii) If an investor wants to buy a put with the same exercise price and expiration date as the call option what will be the value of the put (Apply put-call-parity relationship. [2 marks]
(c) Based on the risk and return relationships of the CAPM, supply values for the seven missing data are the following table.
Security Expected return % Beta Standard deviation Non-Market risk
s^2 e_i
A - 0.8 - 85
B 19.0 1.5 - 0.49
C 15.0 - 8 0
D 7.0 0 12 -
E 21.0 - 15 -
[6 marks]
QUESTION THREE [20 MARKS]
(a) Discuss important factors that affect decision about the appropriate forecasting technique to select. [5 marks]
(b) The sales data for XYZ Ltd (in million of shillings) for the year 2009 to 2012 inclusive are given below.
Quarter
Year 1 2 3 4
2009 10 34 94 28
2010 12 54 120 32
2011 16 48 124 66
2012 24 48 154 76
(i) Determine the trend in the data using least square method. [5 marks]
(ii) The percentage variation of each quarter’s actual sales for the four year period. [2 marks]
(iii) Forecast the sales for the 1st and second quarter of 2013 using multiplicative model. [4 marks]
(c) More often, financial decision makers apply qualitative approaches to forecasting that rely heavily on judgment and less on analytical tools. Discuss three of such judgmental forecasting methods. [3 marks]
QUESTION FOUR [20 MARKS]
(a) The CFO of Brookside Diaries Ltd seeks to create the firm’s proforma statement of financial position for the next fiscal year. Sales are projected to grow at 10% to the level of sh 330,000,000. Current assets, fixed assets, short term debt, long term debt are projected at 125%, 150%, 40% and 45% of the current total sales respectively. Brookside Ltd pays out 40% of the net income. The value of common stock is constant at Shs.50 million.
The net profit margin on sales is 12% based on CFO’s forecast, how much external funds does Brookside Dairies Ltd require? [7 marks]
(b) (i) Derive the equation of the capital market line. [3 marks]
(ii) Use the equation in b(i) above to determine the risk of an efficient portfolio whose expected return is 16% given that the risk free return is 10% the expected return on market index is 18% and the standard deviation of the market index is 5%. [5 marks]
(c) A financial forecaster has gathered the following data about the relationship between returns on stock S and the market (M) for the last six years. The data is expected to obey the relationship R_s = ?+ßR_m + e and e is expected to be zero over time due to randomness of unsystematic risk.
The percentage returns for the past six years are shown in the table below:
Year 1 2 3 4 5 6
Return (%)
S 8 9 20 -10 5 12
M 15 7 16 -13 4 7
Required:
(i) Estimate the values of ? and ß using regression analysis. [4 marks]
(ii) How much variation in the returns of asset S is explained by the market? [2 marks]
(iii) Calculate the unsystematic risk of stock S. [1 mark]
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