finance concept in capital budgeting decision

May 28th, 2015
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Abilene Christian University
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These investors don’t mind taking a little risk in order to increase the potential returns that pure income/debt funds or fixed instruments will provide. Also, MIPs are better for investors who are nearing retirement, do not have any other substantial source of regular income and do not mind a marginal additional equity risk.

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Investment riskIntroduction31 Risk aversion31.1 A note about terminology31.2 Are investors risk-averse?3Answer42 Quantifying risk42.1 Looking at each of the possible alternative outcomes42.2 Calculating returns5Answer73 Risk factors83.1 Background83.2 Maturity103.3 Liquidity10Liquidity and the lobsterpot: a cautionary tale113.4 Variability of income113.5 Default or credit risk113.6 Event risk123.7 Interest rate risk12Answer134 Discounted cash flow and the net present value rule144.1 Introduction144.2 Discounted cash flow144.3 Net present value145 Conclusion15Do this16Try this16Acknowledgements16Unit Image16Figures17IntroductionA fair return on investment is defined as one that compensates the investor for the risk incurred in making the investment neither more nor less. Conversely, an excess return is one that over-compensates the investor for the risk incurred. Investors want to avoid investments that pay less than a fair return, while borrowers want to avoid paying an excess return. In this unit we shall:define more precisely what we mean by risk in a financial context;consider how investors react to the presence or threat of risk;develop a method of quantifying risk mathematically; andlook at the main factors contributing to investment risk in the real world.Finally, we shall see how the use of the net present value rule enables investors to calculate whether the risks they incur are adequately

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