The following three defense stocks are to be combined into a stock index in Janu

Question

The following three defense stocks are to be combined into a stock index in January 2013 (perhaps a portfolio manager believes these stocks are an appropriate benchmark for his or her performance):

What is the rate of return on this index for the year ending December 31, 2013? For the year ending December 31, 2014? (Negative values should be indicated by a minus sign. Do not round intermediate calculations. Enter your answers as a percent rounded to 2 decimal places. Omit the "%" sign in your response.)

The following three defense stocks are to be combined into a stock index in January 2013 (perhaps a portfolio manager believes these stocks are an appropriate benchmark for his or her performance):

Explanation / Answer

Part a)

The initial value of the index with the price price-weighting scheme is calculated by averaging the price of all the 3 defense stocks at 1/1/2013. The formula for calculating the initial value is given below:

Initial Value = (Stock 1 Price + Stock 2 Price + Stock 3 Price)/3

____________

Using the values provided in the question, we get,

Initial Index Value = (70 + 51 +80)/3 = $67 (answer for part a)

________________

Part b)

To calculate the return for the Year 2013, we need to find the index value as on 1/1/2014 with the use of same formula as provided in part a). The formula for calculating return has been provided below:

Return = (Index Value as on 1/1/2014 - Index Value as on 1/1/2013)/(Index Value as on 1/1/2013)*100

The value as on 1/1/2014 is the same as the value for the Year ending on 31/12/2013

____________

Using the values provided in the question, we get,

Index Value as on 31/12/2013 = (73 + 46 + 69)/3 = $62.67

______

Return for the Year ending on 31/12/2013 = (62.67 - 67)/(67)*100 = -6.47%

____________

To calculate the return for the Year 2014, we need to find the index value as on 1/1/2015 with the use of same formula as provided in part a). The formula for calculating return has been provided below:

Return = (Index Value as on 1/1/2015 - Index Value as on 1/1/2014)/(Index Value as on 1/1/2014)*100

The value as on 1/1/2015 is the same as the value for the Year ending on 31/12/2014

____________

Using the values provided in the question, we get,

Index Value as on 31/12/2014 = (87+60+86)/3 = $77.67

______

Return for the Year ending on 31/12/2014 = (77.67 - 62.67)/(62.67)*100 = 23.94%

____________

Tabular Representation:

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