7/24/2019 IP case 1

1/2

Ravi was well prepared for his rst meeting with Mr Singh.

Ravis superior had instructed him clearly that the rst step in any relationship

would be to determine the risk tolerance prole for the investor. Ravis

organization has devised a questionnaire and a score card to determine the risk

prole.

score ! scoreRisk aversion

category

less than "# ".$ very low

"#%&$ & low

&'%$# &.$ moderate

$"%($ ) regular

('%*# ).$ high

over *# + very high

,ere score was the score obtained by an investor upon answering the risk

proling questionnaire.

Ravis rm also encouraged using alternative methods to verify the ! score so

that risk proling is done on a sound basis.

Ravi made the following notes based on his meeting with Mr Singh.

". Mr Singh was well%o- and his situational prole did not necessitate risk%

free or safe investments. utting it simply/ Mr Singh was in a position to

take investment risks.&. Mr Singhs e0isting portfolio consisted of )#1 invested in bank 23s and

(#1 invested in a risky portfolio. 3etailed analysis of this risky portfolio by

the research desk in Ravis rm suggested that this portfolio had average

return of "(1 p.a. and standard deviation of &+1 p.a.). Mr Singh scored (4 in the risk proling questionnaire which Ravi e0ecuted.+. Ravi showed an !52 proposition to Mr Singh which had e0pected return of

p.a. and standard deviation of +#1 p.a. 5t was a three year close

ended fund from a reputed fund house. Mr Singh understood the

proposition/ liked it but added a qualier that in any case he would not like

to see a loss in value more than "#1 of the corpus invested. Ravi

countered saying that in risky assets it would be very di6cult and

e0pensive to guarantee a return. Mr Singh responded by saying that at

least *$1 of times/ he would not like to lose more than "#1 of his

invested corpus.

uestion "7 8hat is likely to be the risk aversion category of Mr Singh9

uestion &7 Ravi is evaluating whether he should recommend a preference share

with *1 p.a.

coupon to Mr Singh. :he preference share was issued by a very and

highly reputed

7/24/2019 IP case 1

2/2

company en;oying !!! rating for its debentures. 5n Ravis view/ the

preference share

carried negligible risk. !s the dividend on the preference shares is

ta0 free in the hands

of the investor/ the return of *1 would accrue post ta0 to theinvestor. (Hint: Use the

utility formula Uo = Rp * A * Sp * Sp to evaluate the preference share.

Use an

alternative formula Uo = Rf + (SH!"# (! * A" an$ con%rm that the ans&er

remains the same."