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2011 | Book

Returns Read chapter Read first chapter

The Essential Financial Toolkit

Everything You Always Wanted to Know About Finance But Were Afraid to Ask

Author: Javier Estrada

Publisher: Palgrave Macmillan UK

Book Series : IESE Business Collection

Part of: Springer Professional "Wirtschaft+Technik" , Springer Professional "Wirtschaft"

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About this book

Math and jargon make essential financial concepts seem intimidating, but that is simply because most books do not have the goal of being accessible to interested readers – this book does. In ten easy-to-read chapters, it explains all the essential financial tools and concepts, fully illustrated with real-world examples and Excel implementations.

Table of Contents

Frontmatter
Tool 1. Returns
Abstract
This chapter discusses the concept of returns, essential for evaluating the performance of any investment. We will start by defining the arithmetic return in any given period and then expand the definition to multiperiod returns. Then we will define the logarithmic return in any given period and again expand the definition to multiperiod returns. We will conclude by discussing the distinction between these two types of returns.
Javier Estrada
Tool 2. Mean Returns
Abstract
This chapter discusses three definitions of mean returns and highlights their different interpretations and uses. In many cases, particularly when evaluating risky assets, the concept of “mean return” is meaningless, and stating the type of mean return discussed, arithmetic or geometric, is essential. Also, when investors trade actively, their mean return and that of the asset in which they invest may differ substantially, which requires yet another concept, the dollar-weighted mean return.
Javier Estrada
Tool 3. Risk: Standard Deviation and Beta
Abstract
This chapter discusses two very widely used definitions of risk, standard deviation and beta, both of which are at the heart of modern finance. Some say that risk, like beauty, is in the eyes of the beholder. Maybe it is, but even if that is the case, understanding the relationship between the standard deviation, beta, and risk is essential for anyone who wants to have a basic knowledge of finance.
Javier Estrada
Tool 4. Diversification and Correlation
Abstract
This chapter discusses the issue of diversification, something that academics preach and most investors practice. It is often said that putting all the eggs in the same basket is not a good strategy. Diversification, at the end of the day, consists of following that simple advice when building investment portfolios, a process in which the correlation between assets plays a critical role.
Javier Estrada
Tool 5. Required Returns and the CAPM
Abstract
This chapter discusses the relationship between risk and return. It is obvious that investors would want a higher exposure to risk to be compensated with a higher return, but in order to estimate the actual return investors should require at different levels of risk, we need a model. The Capital Asset Pricing Model (CAPM), one of the models most widely used in finance, provides a simple and intuitive way to tackle this issue.
Javier Estrada
Tool 6. Downside Risk
Abstract
This chapter discusses a view of risk that, unlike the standard deviation and beta, focuses on the downside faced by investors. Of the several measures that attempt to capture this downside, the focus here is on the semi-deviation, an increasingly popular magnitude that measures volatility below any chosen benchmark.
Javier Estrada
Tool 7. Risk-Adjusted Returns
Abstract
This chapter discusses how to properly evaluate performance by taking into account not just return, as most commercial rankings do, but also risk. And because risk can be defined in more than one way, there is more than one measure of risk-adjusted returns. We will discuss five of them, some differing in the way they define risk and others in the way they incorporate it into a risk-adjusted measure.
Javier Estrada
Tool 8. NPV and IRR
Abstract
This chapter discusses the two most widely used tools for project evaluation: NPV and IRR. Both tools require a critical input, the cost of capital, one of the most essential magnitudes for any company, which is also briefly discussed. Both NPV and IRR have applications that go way beyond project evaluation, and no toolbox would be complete without them.
Javier Estrada
Tool 9. Multiples
Abstract
This chapter discusses stock valuation using relative valuation ratios, typically referred to as multiples. These multiples are widely used by equity analysts and widely discussed in the financial press. Their popularity is largely due to their simplicity, but, as discussed below, this simplicity may be deceiving and may lead to faulty analyses and, ultimately, to wrong investment decisions.
Javier Estrada
Tool 10. Bonds
Abstract
This final chapter discusses a financial instrument that governments, companies, and investors could hardly live without. Bonds are an essential asset class, widely used by governments and companies to finance their investments and by investors to protect their portfolios. They come in many types and degrees of complexity, but the simple bonds discussed here, whose characteristics of risk and return are not difficult to understand, are the most widely used.
Javier Estrada
Backmatter
Metadata
Title
The Essential Financial Toolkit
Author
Javier Estrada
Copyright Year
2011
Publisher
Palgrave Macmillan UK
Electronic ISBN
978-0-230-29519-3
Print ISBN
978-1-349-32888-8
DOI
https://doi.org/10.1057/9780230295193