Your task is to identify the Andrews’ investment objectives and suggest a new asset allocation for their investment portfolio. To achieve this, you need to study and analyse their cash flows, historical returns on various assets classes, the performance of their existing superannuation portfolio and the performance of the investment portfolio that you propose to them.
1. Investment policy statement Create an investment policy statement (IPS) for the Andrews. The IPS should at least include
(a) Return objectives;
Note: You need to calculate annual cash flows for Andrews for the next 30 years. Of this period, first 10 years can be considered as the consolidation period and the remaining 20 years is the spending/gifting period. Use the long-term discount rate for discounting cash flows, if necessary. It is also important to consider their tax rate in arriving at the return requirement.
(b) Risk objectives;
(c) Investment constraints – investment time horizons, liquidity needs, special needs, tax concerns and investment guideline/strategy;
(d) Standards for evaluating portfolio performance.
2. Portfolio construction and performance
(a) Generate annualised return for each asset class from July 2000 to June 2019 and using the data provided, analyse their performance and examine the relationships among them. Discuss the role that each asset class plays in an investment portfolio.
Note: This should be based on annualised return calculated for each month from July 2000 to June 2019. You need to use the following formula to annualise the return of a particular month:
(b) Using the annualised return calculated in (a) above, analyse the return performance of Andrews’ existing superannuation portfolio over the period January 2005 to June 2019.
(c) Use arithmetic means of annualised returns (calculated on monthly basis) as the expected returns for the asset classes going forward (and also other relevant historical statistics), and come up with an appropriate strategic asset allocation that satisfies identified risk/return targets. Note: You should use annualised returns calculated on monthly basis for different assets classes for a very long period for this purpose.
(d) Compare the performance of portfolios (b) and (c) (back testing) and discuss how the new portfolio meets the Andrews’ investment objectives. You must at least provide the following to accompany your analysis:
i. Average portfolio return, standard deviation and Sharpe ratios over the period January 2005 to June 2019;
ii. Graph and compare the performance of the portfolios (existing and proposed) for the period January 2005 to June 2019;
iii. Probability of generating a negative return in any one year over the sample period.
Note: You need to calculate annual returns on monthly basis for the portfolio you propose for the period January 2005 to June 2019 (as you did for Andrews’ existing portfolio in (b) above.)
(e) Draw an efficient frontier for the given portfolios (short sales not allowed). Plot the expected return and risk of the portfolio proposed for Andrews (in (c) above) in the risk-return space. Is it important that the portfolio you propose be efficient?
(f) Explain how the personal tax of Andrews affects their overall return target. 3. Security analysis The Andrews are interested in two stocks: Commonwealth Bank (ASX code CBA) and Telstra (ASX code TLS). They are seeking your opinion on the outlook of these two stocks over an intermediate-term horizon of three to five years. Your task is to analyse these two stocks using a top-down approach, and come up with your view on their expected performance going forward. The top-down analysis of a company’s prospects starts with the broad economic environment, examining the state of the aggregate economy and even the international economy. From there, one considers the implications of the outside environment on the industry in which the firm operates. Finally, the company’s position (including firm-specific information such as historical prices, forecasts, news items) within the industry is examined. The purpose of this exercise is to find and gather publicly available information, analyse them and generate your own views about the stocks. The following databases/websites provide economic data for the Australian market and financial information for companies listed on the Australian Securities Exchange (ASX):
1. Australian Bureau of Statistics
2. Data for economic indicators
3. Company financial report
4. Analyst forecasts, new items and technical chart for the stocks can be found