CA Final SFM New Syllabus Full Chalisa Book by Aaditya Jain Sir
CA Final SFM New Syllabus Full Chalisa Book by Aaditya Jain Sir
SFM
WITH PRACTICAL STOCK MARKET KNOWLEDGE
CA Aaditya Jain
With Sunrise You Rise
CA, MBA(FINANCE), NCFM/NISM, B.COM, M.COM
AWARDED AS NSE CERTIFIED MARKET PROFESSIONAL
AND MASTER OF FINANCIAL ANALYSIS, POST GRADUATE DIPLOMA IN
FINANCIAL MARKET, CFA (ICFAI)
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RETENTION RATIO
EPS - DPS Retained Earning Per Share
Retention Ratio = x 100 or (1 - Dividend Payout Ratio) or x 100
EPS EPS
Note: Dividend is always paid on face value of share and not market price .
GORDON'S MODEL / DIVIDEND GROWTH VALUATION MODEL / GORDON GROWTH'S MODEL / DIVIDEND
DISCOUNT MODEL / CONSTANT GROWTH RATE MODEL
DPS1 DPS0 ( 1 g) EPS1 (1 - b) EPS0 (1 - b)(1 + g)
P0 = or P0 = or P0 = K - g or P0 = Ke - g
Ke – g Ke - g e
DPS1 = DPS next year / Dividend to be paid / Expected Dividend /Dividend not yet paid
DPS0 = DPS of current year / Dividend just paid / DPS as on today/Dividend Per Share of previous year / Dividend
Recently Paid / Last year dividend
EPS = Earning Per Share
Ke = Cost of Equity / Investor's Expectation / Capitalization Rate / Expected Return / Discount Rate / Opportunity
Cost for shareholders
P0 = Current Market Price Per Share Ex-Dividends, Theoretical Market Price Per Share, Intrinsic Value Per Share
or Equilibrium Price Per Share ,Present Value Market Price , Market Price Per Share as on today
g = Growth rate of dividend = b x r
b = Retention Ratio (%)
r = Rate of Return / Internal Rate of Return (IRR) / Return on Equity / Return on Investment(ROI)
(1 - b) = Dividend Payout Ratio
OPTIMUM DIVIDEND PAYOUT OR OPTIMUM RETENTION RATIO AS PER GROWTH MODEL (ALL OR NOTHING
APPROACH)
Optimum
Nature of Firm Relation Dividend Payout Retention Ratio
Growth Company Ke < r 0% 100%
Declining Company Ke > r 100% 0%
Normal Company Ke = r Indifferent Indifferent
D1 D2 D3 D4 D5 1
= + + + + ×
(1 + Ke)1 (1 + Ke)2 (1 + Ke)3 (1 + Ke)4 Ke – g (1 + Ke)4
MPS
PRICE EARNING RATIO: Price Earning Ratio =
EPS
Total Earnings Available For Equity Shareholde r
RETURN ON EQUITY (ROE): r = x 100
Total Equity Shareholde r' s Fund
Total Equity Shareholde r' s Fund
BOOK VALUE PER SHARE (BVPS): Book Value Per Share ( BVPS ) = Total Number Of Equity Share
RELATIONSHIP BETWEEN EPS, BVPS & ROE: EPS = Book Value Per Share x Return on Equity.
RELATIONSHIP BETWEEN GROWTH RATE (g), RETENTION RATIO (b) & RETURN ON EQUITY (r); g = b x r
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P1 - P 0
CAPITAL GAIN YIELD: Capital Gain Yield = x 100
P0
D (1 - g)
NEGATIVE GROWTH RATE MODEL: P0 = 0
Ke g
VARIOUS METHODS OF Ke CALCULATION :
D D
• Dividend Price Approach: Ke = 1 • Dividend Price + Growth Approach: Ke = 1 + g
P0 P0
EPS1
• Earning Price Approach: Ke =
P0
1
RELATIONSHIP BETWEEN KE & PE RATIO: Ke =
P/E Ratio
Net Sales
ASSET TURNOVER RATIO (ATR): Asset Turnover Ratio = Decision: Higher the better
Total Asset
b ± b2 - 4ac
A general quadratic equation can be written in the form ax2+ bx + c = 0 ; x =
2a
Example: 36.25Ke2 - 1.80Ke - .64 = 0
Here, a = 36.25;b=-1.80;c=-.64
D0 (1 gn ) D0H1 (g c gn )
H MODEL: P0 r g
n r gn
Where: gn = Normal growth rate long run; gc = current growth rate i.e. initial short term growth rate; H1 = Half life
growth rate; r = rate of return expected by the investor; D0 = Dividend received in the present year.
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O
B
N
S
D VALUATION OF SECURITY : BOND
Maturity Value
VALUE OF ZERO COUPON BOND OR DEEP DISCOUNT BOND: Value Of Bond(B0) =
(1 + Yield)n
HOLDING PERIOD RETURN (HPR): Holding Period Return (R) or Total Return
I + (B1 - B0 )
= 1 or I1 + (B1 - B0 ) or Current Interest Yield + Capital Gain Yield
B0 B0 B0
Where B0 is the Price of bond as on today, and B1 is the price of the bond at the end of the holding period.
(B1 - B0 )
CAPITAL GAIN YIELD: Capital Gain Yield = x 100
B0
I1
INTEREST YIELD OR CURRENT YIELD: Current Yield = B Where I1= Interest To Be Paid at Year End 1
O
COST OF DEBT (Kd) / YIELD TO MATURITY (YTM) / REDEMPTION YIELD / INTERNAL RATE OF RETURN / MAR-
KET RATE OF INTEREST / PROMISED YTM / OPPORTUNITY COST OF DEBT
Maturity Value – Bo
Interest p.a
n
• APPROXIMATION METHOD: Kd p.a=
Maturity Value Issue Value
2
Where Bo is current value of bond in case of existing bond or issue price or new proceeds in case of new issue of
bond.
Annual Interest
KD OF PERPETUAL BOND: Yield or Kd =
Bo
DIRTY PRICE AND CLEAN PRICE: Dirty Price = Clean Price + Accrued Interest
EBIT
INTEREST COVERAGE RATIO: Interest Coverage Ratio =
Interest
Maturity Value – Bo
Interest Per 6 Months
nx2
Kd Of 6 Month =
Maturity Value Bo
2
Now Kd p.a = Kd for 6 month x 2
Main Equation: In Amount: Actual Market Value of Convertible Bond - Fair conversion value of Bond
Actual Market Value of Convertibl e Bond - Fair conversion value of Bond
In %:
Fair conversion value of Bond
CALCULATION OF BOND VALUE WHEN ENTIRE INTEREST & PRINCIPAL AMOUNT IS RECEIVED AT THE END OF
Yield Curve
Yield Curve is the graphical representation of the relationship between Maturity and Yield to Maturity.
Yield to maturity is plotted on the Vertical Axis ( Y- axis ) and maturities on the horizontal axis ( X axis ) .
There are four main types of yield curve shapes:
(i)Normal(Rising) Yield Curve,(ii)Inverted(Falling) Yield Curve (iii) Flat Yield Curve (iv) Humped Yield Curve
A Normal Yield curve is one in which longer maturity bonds have a higher yield compared to shorter-term
bonds due to the risks associated with time. The yield curve usually has a positive slope. Generally, this reflects
the fact that most traders expect the economy to grow in the future.
An Inverted Yield curve is one in which the shorter-term yields are higher than the longer-term yields. . Under
unusual circumstances, long-term investors will settle for lower yields if they think the economy will slow or even
decline in the future. A negative yield curve has generally been considered a warning sign that the economy is
slowing and that a recession is likely.
A Flat Yield curve is observed when all maturities have similar yields. A flat curve sends signals of uncertainty
in the economy. This mixed signal can revert to a normal curve or could later result into an inverted curve.
A Humped Curve results when short-term and long-term yields are equal and medium-term yields are higher
than those of the short-term and long-term. Generally, these kinds of curves hint at overall uncertainty about the
future
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TOTAL NO. OF EQUITY SHARES AFTER BUY BACK: Existing No. Of ES - Buyback Shares
XXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXX
MUTUAL FUND
RELATION BETWEEN INITIAL EXPENSE, RECURRING EXPENSE, DESIRED RETURN OF INVESTOR AND RETURN
OF MUTUAL FUND
Relationship Between Return Of Mutual Fund, Recurring Expenses , Initial Expenses and Return Desired By
Investors can be given by using following relation :
Return Required By Investors = (Return of Mutual Fund - Recurring Expenses)(1 - Initial Expenses)
XXXXXXXXXXXXXXXXXXXXX
CORPORATE VALUATION
Note: Market value of Equity includes both Equity share capital & Reserve & Surplus. No need to take reserve &
surplus separately, When you are taking market value of Equity.
Equation No.2: Profit and Loss Account Approach
EBITDA (Earning Before Interest Tax Depreciation & Amortization) XXX
x EBITDA Multiple XXX
Capitalized Value XXX
Less: Debt XXX
Add: Surplus Funds XXX
Equity Value (Enterprise Value) XXX
Interest Rate
CALCULATION OF INTEREST RATES (%) : Equation :- Amount of Loan / Debt
DISCOUNTED CASH FLOW(DCF) APPROACH/ FREE CASH FLOW APPROACH FOR EQUITY
It is a method of evaluating an investment by estimating future cash flows and taking into consideration the
time value of money.
Note : How To Calculate Free Cash Flow For Equity :
EBDITA xxx
(-)Depreciation xxx
(-)Amortization xxx
(-)Interest xxx
EBT xxx
(-)Tax xxx
EAT xxx
+ Deprecciation xxx
+Amortization xxx
-Increase In Working Capital xxx
+Decrease In Working Capital xxx
-Capital Expenditure xxx
Free Cash Flow xxx
XXXXXXXXXXXXXXXXXXXXXXXX
ECONOMIC VALUE ADDED (EVA)
NOTE : In Calculating Operating Profit, interest is not deducted as interest is a non-operating items.
NOTE : Total Funds / Capital Employed includes : Equity Share Capital + Reserves + Debentures + Preference
Share Capital + Long Term Loan - Profit and Loss Account ( Dr.) - Fictitious Asset
Earning or Profit Before Interest and Tax [EBIT]
FINANCIAL LEVERAGE: Financial Leverage = Earning or Profit Before Tax [EBT]
NOTE : EBT = EBIT - Interest
EVA
CALCULATION OF MAXIMUM DPS AS PER EVA VALUE : Maximum DPS as per EVA value = No. Of E Shares
MVA : MEANING
MVA (Market Value Added) may be defined as excess value of company in market over and above book value.
MVA :- Two alternatives : (i) Equity Approach (ii) Overall Approach
MVA : EQUITY APPROACH: MVA = Value as per Market - Value as per books
Where, Value as per Market = MPS x No. of Equity Shares ;
Where,Value as per Books = Equity Shareholder's Fund (i.e. ESC + R & S - Accumulated loss etc.)
MVA : TOTAL APPROACH: MVA = Value as per Market - Value as per Books
Where, Value as per Market = MVof Equity + MV of PSC + MV of Debenture
Where,Value as per Books = Total Capital Empolyed
CALCULATION OF KD, KP, KR, KE: Ke = Rf + Beta (Rm - Rf) Kr = Ke (Assumed) Kp = Rate of Dividend or
Refer Preference Share Chapter Kd = Interest (1 - Tax ) or Refer Debenture Chapter
NOTE :- If you are taking market value of equity, then no need to take reserves & surplus separately.
NOTE :- If question is silent regarding Ke Calculation, simply assume Ke = Rate of Dividend.
MPS AFTER MERGER 1ST PREFERENCE : To be used when PE A+B is given or any hint regarding this is Given.
MPS of Combined Firm after Merger = EPSA+B x P/E RatioA+B or
Total Market Value After Merger
2ND PREFERENCE : MPS of Combined Firm after Merger =
Total No. Of Equity Shares After Merger
MVA MVB Synergy Gain (If Any)
=
NA NB ER
MARKET VALUE OF MERGED FIRM : 1ST PREFERENCE : MV (A+B) = EPSA+B x P/E RatioA+B x [NA+ NB x ER]
2ND PREFERENCE : MV (A+B) = MV A + MV B + Synergy
A Ltd B Ltd
MPS After Merger xxx xxx [For B Ltd. we should use Equivalent]
MPS Before Merger xxx xxx
Gain/Loss xxx xxx
NOTE : In place of EPS and MPS we may also use total figure i.e Earnings and Market Value .
NOTE : If question is silent,always take either EPS or MPS as base depending upon the requirement or framing
of question.
E E Synergy
Equation: MPSB = ER x P/E RatioA+B x A B
NA NB ER
Now by solving the above equation keeping Exchange Ratio constant we can find desired Exchange Ratio.
MAXIMUM ER FOR A LTD. (BASE: MPS IF PE A + B IS NOT GIVEN) : Maximum Exchange Ratio :
(i.e the Exchange Ratio at which MPS of Firm ’s A shareholder before and after merger will be same)
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MINIMUM ER FOR B LTD. (BASE: MPS IF PE A + B IS NOT GIVEN) : Minimum Exchange Ratio :
(i.e the Exchange Ratio at which MPS of Firm ’s B shareholder before and after merger will be same)
MPS A NA MPSB NB Synergy Gain
Equation : MPSB = ER x
No. of Equity Shares A No. Of Equity SharesB ER
Now by solving the above equation keeping Exchange Ratio constant we can find desired Exchange Ratio.
CALCULATION OF SYNERGY IN TERMS OF EARNING :Equation: Merger Gain or Synergy Based On Earnings
= Total Combined Earning Of Merged Firm - [Earning Of A + Earning Of B]
CALCULATION OF SYNERGY IN TERMS OF MARKET VALUE Merger Gain or Synergy Based On Market Value
= Total Combined Market Value Of Merged Firm - [Market Value Of A + Market Value Of B]
Valuation Of Equity - Growing Perpetual: P0 [Assuming Dividend is growing constantly from year 4 onwards]
D1 D2 D3 D4 D (1 g) 1 D4 (1 g)
= + + + + 4 x ; Here,
e, is Terminal Value
alue
1 Ke (1 Ke)2 (1 Ke)3 (1 Ke)4 Ke – g (1 Ke)4 Ke – g
NET COST OF MERGER - IN CASE OF CASH TAKEOVER: Equation:Net Cost = Cash Paid to B Ltd. - MVB Received
CAPITAL ADEQUACY RATIO (CAR) / CAPITAL RISK WEIGHTED ASSET RATIO (CRAR)
Total Capital
Equation : CAR or CRWAR or Total Capital To Risk Weight Asset Ratio =
Risky Weighted Assets
Note: When r > Ke: PVGO will be positive; When r < Ke: PVGO will be negative
Offer Pr ice MPSB
PURCHASE PRICE PREMIUM: Equation: Purchase Price Premium =
MPSB
GROSS PROFIT RATIO : Equation: Gross Profit Ratio = Gross Profit/Sales x 100
INVENTORY TURNOVER RATIO : Equation: Inventory Turnover Ratio = COGS/Average Stock or Closing Stock
DEBTOR TURNOVER RATIO : Debtor Turnover Ratio = Net Credit Sales/Average Debtor or Closing Debtor
TREATMENT OF EPS(A+B) AND MPS(A+B) AFTER THE MERGER IN CASE OF CASH TAKEOVER
EA EB Synergy - Opportunity cost of cash paid
EPSA+B = Cash Paid x Interest Rate x (1-tax)
NA
TREATMENT OF CASH BALANCE WHEN WE CALCULATE VALUE OF FIRM USING DCF APPROACH
There will be no treatment of cash balance in such case: VF = VE + VD
VE = VF - VD
VD = This amount will be given in question; VF = It is received by discounting all future cash inflow annually
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PORTFOLIO MANAGEMENT
VARIANCE: Variance = (Standard Deviation)2 = 2 Decision : Higher the variance, Higher the risk.
Standard Deviation
COEFFICIENT OF VARIATION(CV) : BASED ON PAST DATA: CV =
Average Return
Decision : Higher the CV, Higher the risk.
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Standard Deviation
COEFFICIENT OF VARIATION(CV) : BASED ON PROBABILITY: CV =
Expected Return
Decision : Higher the CV, Higher the risk.
Note : Sum of Weights used in Portfolio for different security will always be equal to 1 .
MEANING OF r = 0 It is a No Correlated Portfolio.Portfolio Risk will be between minimum and maximum
range.Standard Deviation Of Portfolio will become (A+B) = σ2 A W2A σ2B W2B
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When r = +1 we can use short cut formula σ ABCD = σ A WA σBWB σCWc σDWD
BETA CALCULATION USING REGRESSION (COMPLETELY AVOID THIS CONCEPT FOR EXAM
Beta of Security XY – nX Y Where 'X' represents Market Return and 'Y' represents Security Return.
2
X2 – nX
rs,m σs
BETA CALCULATION USING CORRELATION: Equation : Beta of Security =
σm
CORRELATION OF A SECURITY WITH SAME SECURITY :Correlation of a security with same security will be 1.
JENSEN’S MEASURE (JENSEN’S ALPHA): It is the difference between actual return and CAPM return.
Equation : Actual Return - CAPM Return
Note: Actual Return will be given in question ; CAPM Return = Rf + Beta x ( Rm - Rf)
Decision : Higher & Positive : Outperformance ; Lower & Negative : Underperformance
Security Market Line (SML): Equation : SML Return = Rf + Beta (Rm - Rf)
s
CAPITAL MARKET LINE (CML): Equation: CML Return = R f (Rm R f )
m
CHARACTERSTIC LINE (CL) : Equation : Rs a Beta Rm Where; a = intercept (Also known as Alpha)
Rm R f
SLOPE OF SML : Equation : Slope of SML =
Beta of Market
Rm R f
SLOPE OF CML : Equation : Slope of SML =
S.D. of Market
ARBITRAGE PRICING THEORY (APT) : Equation :APT = Rf + Beta x Risk Premium of each factor
Where Risk Premium = Actual Return - Expected Return
OPTIMUM WEIGHTS
In this concept, we will find such weights which will help us to minimize our portfolio risk.
B2 rA ,B A B
Equation WA = ; WB = 1 - WA
A2 B2 2 rA ,B A B
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CALCULATION OF BETA USING CAPM: Equation: CAPM Return = Rf + BetaS (Rm - Rf)
CAPM Re turn Rf
Where BetaS=
Rm R f
COVARIANCE MATRIX : It is a presentation of covariance of each security with another security.
Format:
A B C
A COV(A,A) COV(A,B) COV(A,C)
B COV(B,A) COV(B,B) COV(B,C)
C COV(C,A) COV(C,B) COV(C,C)
Note: Cov(A,A) = Variance of A, and likewise.
HOW TO SELECT BEST MANAGER ? Manager who will give highest excess return (%), will be considered best.
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a Y b XY n(Y)2
r2 = [ same equation is also given in Miscellaneous Chapter ]
2
Y n(Y) 2
∑ (d Ad)
TRACKING ERROR : The Tracking Error is calculated as follows: Tracking Error =
n-1
where, d = Differential return ; Ad = Average differential return ; n = No. of observation
Higher the tracking error higher is the risk profile of the fund. If the funds outperform or underperform their
benchmark indices; it clearly indicates that of fund managers are not following the benchmark indices properly.
FOREIGN EXCHANGE
XXXXXXXXXXXXXXXXXXXXXX
FOREIGN CURRENCY
For a country, any Currency other than home currency is known as Foreign Currency.
Example : For India " US$" is the foreign currency. ; For Japan " ` " is the foreign currency. ; For Germany " ` "
is the foreign currency.
EXCHANGE RATE
Exchange Rate is the value of one currency for the purpose of conversion into another currency.
Exchange Rate is of two types : (a) Spot Exchange Rate (b) Forward Exchange Rate
Example : 1 $ = ` 70, It is an exchange rate.
SPOT RATE :Spot Rate is the rate applicable for immediate settlement.
FORWARD RATE :Forward Rate is the rate applicable for future settlement .
ASK RATE AND BID RATE : There are two types of rates in a foreign exchange quote :
(i) Bid Rate (Bank Buying Rate) : Bid Rate is the rate at which Bank Buys Left Hand Currency
(ii) Ask Rate (Bank Selling Rate / Offer Rate) : Ask Rate is the Rate at which Bank Sells Left Hand Currency .
NOTE: Ask Rate will always be greater than Bid Rate .
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NOTE: The quote of Bid and Ask Rate is given from the banker's point of view .
HOW TO CONVERT DIRECT QUOTE INTO INDIRECT QUOTE AND VICE VERSA (ONE WAY QUOTE) ?
Direct Quotes can be converted into Indirect Quotes by taking reciprocals of each other, which can be
1 1
mathematically expressed as follows : Direct Quote = or Indirect Quote =
Indirect Quote Direct Quote
1
Example : 1 DM = Rs. 20 is a direct quote for India. ` 1 = DM is indirect quote for India
20
HOW TO CONVERT DIRECT QUOTE INTO INDIRECT QUOTE AND VICE VERSA (TWO WAY QUOTE) ?
Direct Quotes can be converted into Indirect Quotes by taking reciprocals of each other and then switching the
position.
Example: Direct Quote wih reference to India : 1 $ = ` 46.10 - 46.20.
1 1
Indirect Quote with reference to India : ` 1 = $ -$ or ` 1 = $ .02165 - $ .02170
46.20 46.10
EXCHANGE MARGIN
In case of Buying Rate Quoted by Bank :
Deduct Exchange Margin : i.e. Actual Buying Rate = Bid Rate (1 - Exchange Margin)
In case of Selling Rate Quoted by Bank :
Add Exchange Margin : i.e. Actual Selling Rate = Ask Rate (1 + Exchange Margin)
Contributi on
CONTRIBUTION TO SALES RATIO : Contribution to Sales Ratio = x 100
Sales
DECISION : Higher the C/S Ratio better the situation
MID RATES : Mid rate is the average of ask rate and bid rate.
INTERNATIONAL FISHER EFFECT (IFE)It analyses the relationship between the Interest Rates and the Inflation.
As per IFE we have (1 + Money Interest Rate ) = (1 + Real Interest Rate) (1 + Inflation Rate)
INTER BANK RATES : The rate which are quoted among the authorised dealers i.e. from one bank to another is
called "Inter Bank Rates".
MERCHANT RATES : The rate quoted by banks to their non bank customers are called "Merchant Rates".
CANCELLATION OF FORWARD CONTRACT : CUSTOMER CONTACTED THE BANK BEFORE DUE DATE
• Action : A forward contract can be cancelled by entering into a reverse contract i.e sale contract by purchase
contract and purchase contract by sale contract .
• Applicable Rate : At Forward Rate prevailing as on today for due date
• Settlement Of Gain or Loss : Customer will be entitled for both Profit and Loss .
EXTENSION OF FORWARD CONTRACT : CUSTOMER CONTACTED THE BANK BEFORE DUE DATE OR CUSTOMER
CONTACTED THE BANK ON DUE DATE
Extension involves two steps : (i) Cancellation Of Original Contract (ii) Entering into a new contract
SWAP LOSS
Rules as per FEDAI :
Bank will sell spot xxx
Bank will buy nearest month forward xxx
Swap Loss xxx
NOTE : Swap Loss is calculated by bank taking inter bank rate. In other words, while calculating swap loss, one
bank deals with another bank.
NOTE : It may be noted that when one bank deals with another bank, exchange margin is not applicable. Ex-
change Margin is applicable only when one bank deals with customer.
SPREAD
The difference between Ask and Bid Rates is called the Spread, representing the profit margin of the dealer .
In Rs.:Spread = Ask Rate - Bid Rate In %: Spread = Ask Rate - Bid Rate / Bid Rate
TYPES OF INTEREST RATE QUOTATION : There are two types of Interest Rate Quotations :
(i) Fixed Rate Of Interest (ii) Floating Rate Of Interest like LIBOR,MIBOR etc
EXPORT RATE AND IMPORT RATE : EXPORT RATE : BID RATE ; IMPORT RATE : ASK RATE
POSITION TAKEN IN FORWARD CONTRACT ON THE BASIS OF EXPECTATION
If we expect a currency to rise in future : Buy that Currency.
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XXXXXXXXXXXXXXXXX
INTERNATIONAL FINANCIAL MANAGEMENT
NOTE: NPV arrived at both Home Currency Approach and Foreign Currency Approach will be same.
NOTE: Calculation of Discount Rate:(1+ Risk Adjusted Discount Rate )=( 1+ Risk Free Rate )( 1+ Risk Premium )
NOTE: Risk Adjusted Discount Rate in Domestic Country and Foreign Country will be different.
NOTE: It is generally assumed that Risk Premium attached to any project will be same both in Domestic Country
and Foreign Country Approach.
DECISION: PI > 1 Accept the Proposal, PI = 1 ; Indifference Point, PI < 1 Reject the Proposal
PAY BACK PERIOD / PAY OFF PERIOD / CAPITAL RECOVERY PERIOD : IN CASE OF EVEN CASH FLOWS
Payback Period is the period within which the total cash inflows from the project equals the cost of the project.
Initial Investment
Payback Period =
Annual Cash Inflows
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DECISION: The project with the lower payback period will be preferred.
PAY BACK PERIOD / PAY OFF PERIOD / CAPITAL RECOVERY PERIOD : IN CASE OF UNEVEN CASH FLOWS
Remaining Amount
Equation : Payback Period = Completed Years +
Available Amount
DECISION : The project with the lower payback period will be preferred.
D0 (1 g)
COST OF GDR OR ADR : Equation:
KGDR g
CALCULATION OF OVERALL BETA / FIRM BETA / ASSET BETA / PROJECT BETA : WITHOUT TAX
Overall Beta or Firm Beta or Asset Beta or Project Beta :
Equity Debt
= Equity Beta x + Debt Beta x Debt + Equity
Debt Equity
CALCULATION OF OVERALL BETA / FIRM BETA / ASSET BETA / PROJECT BETA : WITH TAX
Overall Beta or Firm Beta or Asset Beta or Project Beta :
Equity Debt (1 – tax)
= Equity Beta x + Debt Beta x
Debt(1 - tax) Equity Debt (1 – tax) Equity
XXXXXXXXXXX FUTURES
INTRODUCTION Future contract is nothing but a forward contract covered under forex.
• If Price falls then the Buyer of the Future Contract losses and Seller Of the Future Contract Gains
LOT SIZE : In 'Derivative' chapter, 'lot size' concept is applicable.This lot size is determined by SEBI/NSE/BSE.
TYPES OF DERIVATIVES IN INDIA :(i) Stock Futures (ii) Index Futures (iii) Commodity Futures (iv) Currency Futures
FFP : WHEN STORAGE COST IS GIVEN : Equation: FFP = [CMP +PV of Storage Cost] x ert
FFP : WHEN STORAGE COST IS EXPRESSED IN %:Equation:FFP = CMP x e(r - s) x tWhere,S = Storage Cost p.a in %
FFP : WHEN CONVENIENCE YIELD IS GIVEN IN % : It is the % return which is given in case of commodity.
Equation : FFP = CMP x e(r - c) x t Where, C = Convenience Yield
FFP : IN CASE CONVENIENCE YIELD IS EXPRESSED IN AMOUNT : FFP = [CMP - Convenience Yield] x ert
WHEN ARBITRAGE IS POSSIBLE ? The Actual Future price is the price that is prevailing in the market. The
Theoretical Fair Future Price is the price which is calculated by using compounding technique. If Actual Future
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Price (AFP) is not equal to the Fair Future Price (FFP) arbitrage opportunity will emerge.
COST OF CARRY CONCEPT : Difference between Future Price and Cash Price is known as 'Cost of Carry'.
Equation : Cost of Carry = Future Price - Cash Price
HEDGING USING INDEX : WHEN BETA IS INCREASED OR DECREASED [CASE OF PARTIAL HEDGE]
Assumed: Long Position Security
Decrease the Beta: • Sell Nifty • CV x (EB - DB) ; Increase the Beta: • Buy Nifty • CV x (DB - EB)
BETA OF CASH AND CASH EQUIVALENT :Beta of Cash & Cash equivalent is always assumed to be zero.
s
HEDGE RATIO CALCULATION UNDER FUTURE CONTRACT : Equation: Hedge Ratio = rs,f x
f
Where, s = S.D of Spot Price ; f = S.D of Future Price ; rs, f = Coefficient of correlation between Spot Price &
Future Price
OPTIONS
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TYPES OF OPTION CONTRACT: (i) Call Options Contract (ii) Put Options Contract
TYPES OF PARTIES Call Option : (i) Call Writer / Call Seller (ii) Call Holder / Call Buyer
Put Option : (i) Put Writer / Put Seller (ii) Put Holder/Put Buyer
EXPECTATION CALL
• If Expected Market Price As On Expiry > EP or If Market will go up Sell Put
• If Expected Market Price As On Expiry < EP or If Market will go down Buy Put
• If Expected Market Price As On Expiry = EP or If Market will remain same No action
PROFIT / LOSS : FOR CALL SELLER The position of Call Seller will just be opposite of Call Buyer.
PROFIT / LOSS : FOR PUT SELLER The position of Put Seller will just be opposite of Put Buyer.
RULE OF EXERCISE : FOR PUT SELLER It may be noted that under Option Chapter, Put Seller has no right to
exercise.It is the buyer who has a right whether he wants to exercise or not.
FAIR OP BEFORE EXPIRY (I.E. AT THE TIME OF ENTERING INTO THE CONTRACT) : FOR CALL
Equation : OP of Call as on today = CMP as on today - PV of EP
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FAIR OP BEFORE EXPIRY (I.E. AT THE TIME OF ENTERING INTO THE CONTRACT) : FOR PUT
Equation : EP x e-rt - CMP as on today = OP of Put as on today
C1 C2
HEDGE TECHNIQUE : DELTA CALCULATION : S S
1 2
C1 = Fair OP of call as on expiry at high price.; C2 = Fair OP of call as on expiry at low price. ; S1 = High Price
S2 = Low Price
1 1
HEDGE TECHNIQUE : BORROWING CALCULATION : Amount of Borrowings : B = (S2 - C2) or (S1 - C1)
1r 1r
Where r = rate of interest adjusted for periods
BSM (BLACK & SCHOLES MODEL) : FOR CALL : Equation : OP of call as on today : CMP x N(d1) - EP x e-rt x N(d2)
BSM : FOR CALL :WHEN DIVIDEND AMOUNT IS GIVEN In this case, we will use Adjusted CMP in place of CMP.
Equation : Adjusted CMP = CMP - PV of Dividend Income
Where Adjusted Current Market Price = Current Market Price - Present Value Of Dividend Income
CHEAPEST TO DELIVER : Profit of seller of futures = (Futures Settlement Price x Conversion factor) - Quoted
Spot Price of Deliverable Bond
Loss of Seller of futures = Quoted Spot Price of deliverable bond - (Futures Settlement Price x Conversion
factor)
That bond is chosen as CTD bond which either maximizes the profit or minimizes the loss.
VALUE AT RISK
HOW TO CALCULATE VAR:(a)Relative VAR (%):Z-Value x SD(b)Absolute VAR (Amount):Z- Value xSDxAsset Value
HOW TO CONVERT S.D. FROM ONE PERIOD TO ANOTHER? :S.D. of n days = S.D. Daily x n Days
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CONVERSION OF RETURN FROM ONE PERIOD TO ANOTHER Return p.a. = Return Daily x 250
X X
CALCULATION OF PROBABILITY : Step 1 First calculate Z value : Z =
Where, X = Profit / Loss amount given in question X = Mean; = Standard deviation.
Step 2 Now use table to locate probability against the Z value calculated.
Step 3 Thus the probability the company shall be in financial difficulty is 50% - above calculated probability
EFFECTIVE RATE OF INTEREST : Effective Rate of Interest is the annual equivalent rate of interest calculated in
case when interest is compounded more than once in a year.
r m
Effective Rate of Interest = 1 1 , Where m is the number of times interest is compounded every year..
m
MISCELLANEOUS
BUY & HOLD STRATEGY : The initial mix that is bought is held. This is basically a ‘do nothing’ policy. No
constant ratio is required to be maintained in this policy.
ELASTICITY OF DEMAND
The Price Elasticity of Demand (commonly known as just price elasticity) measures the rate of response of
quantity demanded due to a price change.
The formula for the Price Elasticity of Demand (PEoD) is:
Price Elasticity Of Demand = (% Change in Quantity Demanded)/(% Change in Price)
GEOMETRIC MEAN : If we are given two variables ‘a and b’ : Geometric Mean = 2 a b
N (R – R ) β
σ2m i f i
2
σei
i1
following formula: Ci
N β2
1 σ2m i
2
i1 σ ei
Where σ2ei = variance of a stock’s movement that is not associated with the movement of market index i.e.
stock’s unsystematic risk.
The highest Ci value is taken as the cut-off point i.e. C*.It is the cut off rate.Security with C* value and the
securities before this security are to be included in the portfolio and others are rejected.
4. The next step is to calculate weights.For this purpose we have to calculate Zi.
βi Ri R f
Zi = C*
σ2ei βi
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AUTO CORRELATION TEST : It is a statistical Concept. The Value of auto-correlation range from -1 to +1.
A value between 0 to 1 : Positive Correlation A value between -1 to 0 : Negative Correlation
Note: Positive: Two variables are moving in some direction. They are related to each other. [It means they are
strong form] Negative: Two Variables are moving in opposite direction. They are related to each other. [It means
they are Weak Form]
XY nXY
How to do Auto Correlation best? 1. b (Slope) (Beta) : b = 2. Y = a + b X a = Y -b X
X2 n(X)2
a Y b XY n(Y)2
3. r2 [Coefficient of Determination] : =
Y2 n(Y)2
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