Financial Accounting for The Prudential Stock and Burberry Stock Return for the Whole Year (Essay Sample)

M.Sc MANAGEMENT AND FINANCE
Student Name:
Institution Name
Lecturer’s Name
Finance Essay
February 2015
SECTION 1
1(a)
Answer
Selection of the Stock
For the purpose of analysis in this study, the selected stocks are Burberry, London stock exchange group, Easyjet, Prudential and Barclay. The reason for selecting the five stocks is because of the weight of their portfolios and the efficiency of their performance (Galor 2005, p. 37 - 38). The study of the market prices identifies these stocks as the strongest and the most efficient considering the economic factors between 2012 and 2014 as observed by Walker (2014, p. 38). The data gathered for this analysis was taken from the Yahoo Finance library. The stocks assists in the comparison between various prices and the correlations that links the economic variables in the UK market such as the Consumer Price Index, rates of inflation, rates of economic Growth and the Volumes of imports and exports (Fister 2011, p. 40). The two stocks fall into two categories of portfolio; the restricted portfolio and the non-restricted portfolio (Hueting 2011, p. 32 - 33).
Discussion
Burberry
Burberry is a company belonging to the Fashion industry. It is large because of its portfolio with more than 9000 employees (Martenson 2011, p. 31). It has opened more than 100 branches and subsidiaries in the United Kingdom and beyond. In terms of its financial position, Burberry has a capital of more than GB₤ 6 billion as estimated by Mandelbrot & Hudson (2004, p. 34). The average dividend value during the three years of study is 5% of the shareholders equity (Vásquez 2008, p. 32). The market share for Burberry in the London Stock Exchange is about 2.8%.
London stock exchange group
London stock exchange group the stock exchange authority in the UK. It is large because it covers more than 250 companies in the United Kingdom. It has a capital of more than GB₤ 200 billion. According to Grier (2008, p. 45), the average dividend value during the three years of study is 10% of the shareholders equity.
Easyjet
Easyjet is a company in the aviation industry. It is large having more than 2000 employees and running more than 30 branches in the United Kingdom as stated by Stratton et al (2009, p. 52). Easyjet has a capital of more than GB₤ 10 billion. The average dividend value during the three years of study is 8% of the shareholders equity as stated by Tobin (1958, p. 28). The market share for Easyjet in the London Stock Exchange is about 7.6% (Shan, McGuin & Waller 2007, p. 7).
Prudential
Prudential is a company in the financial sector. It is large because of its portfolio with more than 26,000 employees. It has opened more than 120 branches and subsidiaries in the United Kingdom and beyond (Lintner 1965, p. 27). In terms of its financial position, Prudential has a capital of more than GB₤ 25 billion (Merton 2001, p. 49). The average dividend value during the three years of study is 12% of the shareholders equity. The market share for Burberry in the London Stock Exchange is about 3% (Jones 2002, p. 43).
Barclay
Barclays is a company belonging to the Banking sector. It is large because of its portfolio with more than 150,000 employees (Argyrous, Forstater & Mongiovi 2004, p76). It has opened more than 500 branches and subsidiaries in the United Kingdom and other regions. In terms of its financial position, Barclays has a capital of more than GB₤ 37 billion (Markowitz 1959, p. 43). The average dividend value during the three years of study is 6.7% of the shareholders equity (Bhalla 2010, p53). The market share for Burberry in the London Stock Exchange is about 1.8% (Skaf 1999, p. 58).
1(b)
Answer
Calculations of Mean Return Calculation
London stock exchange group
Return for year 1 (R1) = 0.577
Return for year 2 (R2) = 0.25
Mean = (R1 + R2) / 2
Mean = (0.577 + 0.25) / 2 = 0.4135
Burberry
Return for year 1 (R1) = 0.526
Return for year 2 (R2) = 0.599
Mean = (R1 + R2) / 2
Mean = (0.526 + 0.599) / 2 = 0.5625
Easyjet
Return for year 1 (R1) = 0.994
Return for year 2 (R2) = 1.164
Mean = (R1 + R2) / 2
Mean = (0.994 + 1.164) / 2 = 1.079
Prudential
Return for year 1 (R1) = 1.47
Return for year 2 (R2) = 1.724
Mean = (R1 + R2) / 2
Mean = (1.47 + 1.724) / 2 = 1.597
Barclay
Return for year 1 (R1) = 0.862
Return for year 2 (R2) = 1.109
Mean = (R1 + R2) / 2
Mean = (0.862 + 1.109) / 2 = 0.9855
Calculations of Standard Deviation
London Stock Exchange Group
Standard Deviation = (0.414 + 0.34) / 2 = 0.377
Burberry
Standard Deviation = (0.4577 + 0.512) / 2 = 0.48485
Easyjet
Standard Deviation = (0.951 + 1.098) / 2 = 1.0245
Prudential
Standard Deviation = (1.56 + 1.82) / 2 = 1.69
Barclay
Standard Deviation = (0.889 + 1.051) / 2 = 0.97
1 (c)
Answer
The calculation of Covariance and Mean for the Stocks was done in Excel Spread sheet. The results are summarized in the table below. R refers to restricted Portfolio, UNR refers to unrestricted Portfolio and RD refers to the portfolio weight of the Random Distribution (Denney 2005, p62).
A. Inputs on stocks: mean, standard deviation, and correlation matrixStandardExpectedStockDeviationReturnRD0.30.23UNR0.230.34R0.40.34RDUNRRSt. Dev0.30.230.4Mean0.230.340.34Correlation MatrixRDUNRRRD1UNR1.51R0.31.21B. Covariance MatrixRDUNRRRD0.090.10350.036UNR0.10350.05290.1104R0.0360.11040.16C. Equally-Weighted PortfolioRDUNRRWeights0.33330.33330.33330.33330.010.01150.0040.33330.01150.0058777780.0122666670.33330.0040.0122666670.0177777781.00000.02550.02960.0340Variance0.0892St. Dev0.298645089R * weight0.0766666670.1133333330.113333333Mean0.303333333Minimizing Variance given Mean for portfolioMinimizing the variance in Excel SolverPortfolioRDUNRRWeight-0.71932.7430-0.7237-0.7193365080.046570051-0.2042201120.0187401142.743001587-0.2042201120.398022653-0.219145597-0.7236650790.018740114-0.2191455970.0837905841.3000-0.1389-0.0253-0.1166Variance0.2808679StDev0.5299697R x weight-0.1654473970.93262054-0.246046127Mean0.521127016
Table 1: Correlation And Covariance
1(d)
Answer
The CAPM Method uses the formula below to calculate the expected return (r’a) using the risk free rate (Feldstein, Hines & Hubbard 2007, p. 57) and (Sward 2006, p. 84).
r’a = rf + Ba (r’m - rf)
Where
rf is the Risk Free Rate
Ba is the beta of the security
r’m is the expected market Return
r’a = rf + Ba (r’m - rf)
Ba = (r’a – rf) / (r’m – r’f)
17 = 3% + Ba (10% - 3%)
0.17 = (0.03 + Ba (0.1 – 0.3))
Ba = (0.17 – 0.03) / (0.1 – 0.03)
Ba = 2
Beta = 2
1 (e)
Answer
London stock exchange group = 0.4135
Burberry = 0.5625
Easyjet = 1.079
Prudential = 1.597
Barclay = 0.9855
London Stock Exchange Group
Mean Return r’a = rf + Ba (r’m - rf)
r’a = (0.14 + 2(1.2 - 0.7) = 1.14 = 114%
The actual mean Return = 0.4135 = 41.35%
The stock was overpriced
The suggested action is to is to increase the risk free rate
Burberry
Mean Return = r’a = rf + Ba (r’m - rf)
r’a = (0.08 + 2(1.08 - 0.7) = 0.84
r’a = 84%
The actual mean Return = 0.5625 = 56.25%
The stock was overpriced
The suggested action is to is to increase the risk free rate
Easyjet
Mean Return = r’a = rf + Ba (r’m - rf)
r’a = 0.2 + 2(1.2 - 0.7) = 1.2
r’a = 120%
The actual mean Return = 1.079 = 107.9%
The stock was overpriced
The suggested action is to is to increase the risk free rate
Prudential
Mean Return = r’a = rf + Ba (r’m - rf)
Mean Return = 0.06 + 2(1.14 – 0.14)
r’a = 2.10
r’a = 210%
The Actual Mean return = 1.597 = 159.7%
The stock was Under-priced
The suggested action is to is to reduce the risk free rate
Barclay
Mean Return = r’a = rf + Ba (r’m - rf)
r’a = 0.14+2(1.17- 0.17) = 2.14
r’a = 214%
The Actual Mean return = 0.9855 = 98.55%
The stock was overpriced
The suggested action is to is to increase the risk free rate
SECTION 2
2(a)
Answer
The two selected Stock are Prudential and Burberry. The portfolios are constructed as shown below.
 Prudential PortfolioPortfolio xySt. DevReturn 1000.20.37 0.20.51.70.54803280.454 0.40.11.50.4782510.456 0.61.53.11.05444770.962 0.823.81.30883151.216 12.54.51.56348971.47 1.235.21.81830691.724MEAN   0.99590851.597Table 2: Portfolio Construction for Prudential


Figure 1: Efficient Frontier for Prudential
 Burberry Portfolio weightPortfolioPortfolio xySt. DevReturn 1000.20.37 0.30.20.90.30029990.307 0.40.410.35165890.38 0.50.61.10.40434140.453 0.60.81.20.45789080.526 0.711.30.51203520.599MEAN   0.37103770.5625Table 3: Portfolio Construction for Burberry


Figure 2: Efficient Frontier For Burberry
The Prudential Stock has a return of 1.597
The Burberry Stock has a return of 0.5625
The total Return for the 2 stocks = 2.1595
The total Return for all the stocks = 4.5925
Calculation of annual Return = (2.1 / 4.5925) * 100
Annual Return = 45.73%
This is greater than the 20% expected annual return
2(b)
Answer
The selection of the two stocks is because they have a predictable efficiency a...