Finance Research Report Sample

Finance- Report

PART A

You are a fund manager of an investment bank in the UK. You are planning to construct a portfolio using the following currencies: RMB/GBP (Chinese Yuan per Pound Sterling) and NZD/GBP (New Zealand Dollar per Pound Sterling). You wish to examine and critically evaluate the performance of these currencies from 1 May 2020 to 2 May 2021. For this purpose, you are required to conduct some analyses and write a 3000-word report.

1. Calculate the following: From 1 May 2020 - 2 May 2021

a. The daily rate of returns for each of the currencies. Visually examine the performance of the value of the currency and the daily rate of returns for each of the currencies by showing the data on graphs or charts as appropriate.

b. The maximum and minimum returns for each of the currencies.

c. The mean returns for each of the currencies.

d. The variance and standard deviation of returns for each of the currencies.

e. The covariance of returns between each pair of the currencies.

f. The correlation coefficients of returns between each pair of the currencies.

Based on your results from (a) to (f) and any further analysis you may wish to do, compare and comment the risk and return patterns and characteristics for each of the currencies. Your comments should draw on materials and theories you have learnt in this module. Relate the performance of the currencies to relevant events (e.g. economic, financial or political events) that took place during this period and discuss how they had influenced the performance for each of the currencies. You must give bibliographic references to the sources of your information.

PART B

This section requires you to construct an equally weighted portfolio of the currencies selected above.

1. Calculate the following:

(a) The daily rate of returns of the portfolio. Visually examine the performance of the returns for the portfolio and each of the currencies by showing the data on graphs or charts as appropriate.

(b) The maximum and minimum returns of the portfolio.

(c) The mean, variance and the standard deviation of the portfolio returns.

(d) The covariance and correlation coefficients of returns between each currency and the portfolio.

(e) The coefficient of variation of returns for each currency and the portfolio.

2. Based on your results from (a) to (e), examine and compare the performance of your equally weighted portfolio returns with those of the individual currencies. 
Comment on your observations, relating to the portfolio theory, and discuss the benefits of diversification across these currencies. You may also apply the portfolio evaluation techniques to evaluate critically the performance of your portfolio with those of the individual currencies.

Part C

This section requires you to draw a conclusion of the portfolio construction and analysis above. From the viewpoint of a fund manager who wishes to determine whether the currencies that you examined are worth investing in, how useful is the portfolio analysis that you carried out? What limitations do you see in your analysis and results? What further analysis would you wish to carry out?

Solution

Introduction 

In this report, the portfolio analysis of the fund has been conducted. In that portfolio, there are two currency pairs that are RMB/GBP and NZD/GBP. The analysis of this portfolio will hold the evaluation of the return and risk of the portfolio. As per the MBA Assignment Expert,  In order to do so, the standard deviation, correlation, coefficient of variation and a number of other indicators shall be calculated. The analysis will be based on the indicators and the number that these indicators show. Finally, the effectiveness of the portfolio shall be discussed, where the limitation of the portfolio analysis and the further research scope will be assessed. In doing so, a comprehensive report shall be prepared where the analysis of these two currencies with the scope of future research shall be conducted as well.

PART A

Returns of Portfolio are shown for the year starting from May 2020 to May 2021 on a daily basis. Daily returns are shown for currencies NZD/GBP (New Zealand Dollar per Pound Sterling) and RMB/GBP (Chinese Yuan per Pound Sterling). COVID-19 has exerted an adverse impact continuously on RMB currency. It is motivated by theory in market sentiment. The foreign exchange market is among the first affected that experiences exchange rate fluctuations. RMB reacted negatively in the stages of the outbreak, driven by the market oil in China. Currencies around the world drive to be depreciated under pressure. Investors purchased bonds on RMB for risk aversion (Yang, 2021). RMB began to appreciate continuously after 2020. New Zealand used monetary policy unconventionally, featuring large-scale purchases at longer interest rates. Monetary and fiscal stimulus prevented unemployment and preserved financial stability—risks to global economic outlook skewed in a downward direction. Deliberately government-restricted social and economic activity in controlling COVID-19 spread. Countries have faced threats in experiencing prolonged periods in targeting prices to consumer inflation and levels of employment below maximum level. Economic activities, inflation, and employment became depressed persistently. Investment banks are more concerned about the impact of economic capability on investments in business, and unemployment is becoming persistent. 

Globally consumer price inflation follows for low and stable for a long period. Inflationary pressure experiences in economies are dependent on starting experiences into a pandemic. Banks in Japan, Australia and New Zealand are increasingly concerned about inflation mandates (Arkadeva, Berezina and Arkadev, 2022).   Increased integration of financial markets financially leads to more re-pricing of risk across markets. Growth in financial flows reflects the reallocation of assets by investors but also the accumulation of reserves and demographic developments in economies. Growth in portfolio international flows resumed exposure by foreign investors.  

Maximum RMB to Portfolio is at 150%, and ZND is at 160%. The minimum return of the portfolio is -128% which is better than the minimum return of the individual currencies, which is -172% for RMB/GBP and -136% for NZD/GBP. The volatility of the portfolio is reduced due to returns being at -1%. The correlation of the portfolio estimated is 0.33, and the coefficient of variation is 42.15%. Therefore investing in the portfolio is considered to be risky as returns from the portfolio are negative in ZND, and standard deviations are considered as 0.50.

Currency hedges on a monthly basis by updating in reflecting the current value of underlying assets. Roll-over hedge frequently markets volatility and is required through regulation. Being investors in redeeming shares in the fund converts the fund base currency into a currency hedge. Unwanted exposure to currencies is minimized. Gains are exposed to assets outside local markets for diversification benefits. But not wishes to expose additional currency risk that assets bring. Administering currency hedging programmes is complex, and sometimes investors prefer to do so. Purchasing funds in preferred currencies has to pay shares in the fund's base currencies. 

Stock portfolios worldwide currency markets are implied. Pullback of flows in foreign of risk-off events, hedging local currency leads to foreign exchange market weakness. Strong inflows appreciate currencies tend to appreciate making undervaluations. This makes investors willing to stay at risk of hits. Inflation pressures from the perspective of trades in prices of oil rising. New Zealand's price of petrol will increase by 2021 (Hasan et al., 2021). Higher prices result in robust demand globally. Supply of oil during the pandemic as economic uncertainty increased globally, and recent tensions geopolitical tensions also hit the currency. Higher prices in fuel are pervasive in an economy, which significantly costs many industries. 

The pressure of price arising from inflation of trades is also becoming broad-based. The recent government significantly helps to avoid negative impacts on demand from the coronavirus pandemic. Demand is met by global supply sufficiently continued to relate disruptions and restrictions (Kovács and Falagara Sigala, 2021).   Companies substantially renminbi RMB holdings might offset the risk of currency-rate swings significantly with mechanisms in investment or related to hedging strategies. For example, trading regulations in companies allow taking a position in short in RMB against currencies outside China (2018). As a fund manager, steps are taken to hedge currency with instruments like forward currency. RMB is converted to currencies other than be prudent in reducing exposure. Companies revisit hedging by looking to conduct business. RMB/GBP and NZD/GBP, this currency becomes more expensive, so CFO balances strategies against rising costs.  

Growths have slowed in the domestic market of China and are still faster in growth. Large markets are a big reason to take on challenges and require learning in succeeding marketplaces. Recent shifts in RMB/GBP and NZD/GBP are important indicators of the potential size of changes to lay head. Holdings of currencies monitor currency risks in China and New Zealand on an ongoing basis. Many ways are explored in decreasing to deployment assets of RMB/GBP and NZD/GBP that may hold in its mainland.  
 
To construct a portfolio without hedging in currency, I need to expose to risk in the market of RMB/GBP and NZD/GBP exposed to fluctuations of exchange rates between the Chinese Yuan and the New Zealand dollar. During the investments, currencies depreciate against investment horizons. Fund returns in GBP can be higher than returns on RMB/GBP and NZD/GBP. Investors liquidate funds and convert them back to GBP and vice versa (Frahm and Huber, 2019). Investing in currencies is an exposure undesirable when invested in foreign securities. Hedging shares funds are a useful vehicle for investment. At first, invested money is the preferred currency converted to base its funds at the spot rate, and exposures to funds can be hedged by using RMB/GBP and NZD/GBP currencies.  

Based on strategies on hedging, a fund manager resets in forward contract to refresh subsequent Net Present Value that changes the fund in avoiding under-hedge and over-hedge currency exposure. Mainly three types of strategies are required in hedging currency risks. Commonly used hedging is capturing monthly value for the upcoming month. The strategy is lowering transaction cost that fluctuates within the month, which makes an entire investment in hedging and results in currency risk to invest. The second strategy in hedging is avoiding monthly hedges to reset on a daily basis, but also disadvantageous to be more costly in hedging to trading. Being an investor to portfolio strategy of funds is used to hedge and trade-off minimization of transaction costs. The appropriate fund is selected to appetite in currency risk. Investing needs to be aware of exposure to looking for and investment horizons are risky to the portfolio. Long terms investments are diversified to portfolios; unhedged returns are more appropriate.  

PART B

Answer 2

The daily returns of the portfolio show that the returns are highly fluctuating over the period. It is mainly due to the impact of the pandemic. During the pandemic, the global economic condition was deteriorating. Therefore, the returns of the portfolio have been so volatile. The minimum return of the portfolio took place during December, and the maximum return was in January. Therefore, during the end of the first wave of the pandemic and the start of the ease of pandemic restrictions, the portfolio showed massive volatility. 

The maximum return that the portfolio could generate was 111%; however, RMB/GBP and NZD/GBP have a maximum of 150% and 160%, respectively. Although the portfolio has a lower maximum return than the individual currencies, however, it is because of the diversification caused by the two currencies. A higher maximum return of the currencies implies that there could be higher risk associated with it as well. The minimum return of the portfolio is -128% which is better than the minimum return of the individual currencies, which is -172% for RMB/GBP and -136% for NZD/GBP. Since the minimum return of the portfolio is lower than that of each asset, therefore, it is certain that the riskiness of the portfolio is lower than that of the individual assets. The mean return of the portfolio is -1%, whereas, in the case of RMB/GBP, it is 0.5%, and in NZD/GBP, it is -2.5%. Although it is lower than the mean return of RMB/GBP, it balances out the lower mean return of NZD/RMB. It implies that the portfolio has been able to reduce the overall volatility, thereby reducing the risk of losses overall.

The variance of the portfolio is 0.09, whereas it is 0.27 in RMB/GBP and 0.25 in NZD/GBP. The variance of the portfolio is lower than the individual assets because of the diversification (Fahmy, 2020). Lowering of variance implies that the risk of investing in the portfolio is low as well. The standard deviation of the portfolio is 0.30, which is lower than the standard deviation of 0.52 for RMB/GBP and 0.50 for NZD/GBP. A lower standard deviation would imply that that portfolio has lower risk. Although the return of the portfolio is not very high, however, the lower standard deviation indicates a less risky investment. This means that the portfolio will certainly generate a positive return by lowering the risk associated with the portfolio. 

The covariance of the portfolio is 0.09, and it is the measurement of the degree to which the return of the assets individually moves together. Since the number is positive, therefore, it means that the currencies trend in the same direction (Sun et al., 2019). A lower covariance as such means that the degree of correlation between the currencies is not very strong. This indicates that although the currencies trend in the same direction, however, the movement could be stronger (Nguyen et al., 2021). A positive covariance is desired under normal circumstances. The correlation of the portfolio will show the linear relationship between the assets in the portfolio. The correlation of the portfolio in the given case is 0.33, which is a positive correlation between the currencies. Although it is positive, suggesting that the returns of the currencies move in the same direction, however, the relationship could be stronger. A weak correlation might be the result of poor diversification and a significant amount of risk. The coefficient of variation is used to measure the relative risk that is used to compare the investment's standard deviation to the expected return (Cleary and Lamanna, 2022). If the coefficient of variation is high, then the risk associated with the portfolio is high as well. In the case of the portfolio, the coefficient of variation is 42.15, which means that the standard deviation of the portfolio is quite high relative to what the portfolio generates in return. Therefore, the portfolio garners a higher level of volatility which can be due to a need for more diversification. This portfolio is being diversified using two currencies; therefore, it is possible that the diversification needs to be well-established. Therefore, the portfolio will be needed to be adjusted so that a new currency can be introduced with lower risk, which will automatically reduce the coefficient of variation. 

Benefits of diversification:

The benefits are discussed here:

• Diversification, in general, is being done in order to reduce the risk of volatility. These two currencies, RMB/GBP and NZD/GBP tend to have a low correlation. In the given case, it has been found that these currencies are not strongly correlated; therefore, in the case of devaluation of one currency, the other currency's value will be protected (Zaimovic, Omanovic and Arnaut-Berilo, 2021). It will reduce the overall volatility of the portfolio, whereby; the returns to be generated by the portfolio can be optimized. 

• These two currencies will result in the portfolio being exposed to different markets across the globe. The investment thus made in the different currencies will allow the investors to have exposure towards different nations and regions, thereby enjoying the growth that these countries might have. Hence, by investing in different currencies, the portfolio will diversify its risk across nations. 

• Investing in currencies can be used to hedge against inflation. China is an exporting nation; therefore, when inflation increases, the commodities exported by China will increase in value as well. Therefore, the overall balance of payment will increase, which will positively impact the overall economic health of the nation. As the economic condition of the country increases, the value of currency shall increase as well.

• Currencies are not the traditional assets that people often invest in. Therefore, the return to be generated by these assets might increase rapidly. Since the currency value is rapidly impacted by the global economic scenario, therefore, diversification of portfolios using currencies is a good strategy.

• The currency market is a highly liquid market; therefore, investors can buy or sell currencies with ease. Therefore, the portfolio's exposure towards the changing currency market could be adjusted without any setback to be seen in the portfolio. 

PART C

The portfolio analysis that I carried out was very useful as it assisted me in understanding the risk and return of the portfolio. The portfolio has been diversified using two currencies that are RMB/GBP and NZD/GBP. When there are a number of assets in a portfolio, it might not be able to generate an optimal level of return. By analyzing the portfolio, the shortcomings of the portfolio can be assessed easily. In the given case, it has been found that the variance of the portfolio is low, which means that the currencies are not correlated. Therefore, the risk of volatility can be reduced. Also, the standard deviation is low. Hence, the risk associated with the portfolio is low. Therefore, the investor will not lose money. However, it has been found that the coefficient of variation is high, which indicates that even though the standard deviation could be low however, it is relatively higher than what the portfolio should deliver (Jalilibal et al., 2021). Therefore, from the analysis, it has been found that even though the indication towards the lower risk is being shown by the standard deviation, however, the coefficient of variation shows that the risk is high. Considering this information, I can conduct more extensive research in order to find out the optimal level at which the risk will be low. 

Limitations in the analysis and the results have been sending hereunder:

• The results from the analysis can contradict each other. The standard deviation is low. However, the coefficient of variation is high. Therefore, on the one hand, the risk is low as the standard deviation is low; however, on the other hand, the coefficient of variation is high, which means that the risk is high. Hence, there is no concrete analysis of the risk associated with the portfolio of the currencies. 

• The average return of the portfolio is lower than the return on RMB/GBP. Therefore, one might question the diversification of the portfolio. Since the return on one currency could be higher than the portfolio’s therefore, whether the investment could be made in the single currency is a question to be asked as well. 

Further analysis: 

The coefficient of variation is high, which means that the risk associated with the portfolio is high as well. Therefore, it is certain that the portfolio needs to be better diversified. In order to diversify the portfolio, there should be either the inclusion or exclusion of other currencies or other assets. Therefore, further analysis to be considered should be involved in finding other currencies or assets that can reduce the risk of the portfolio. Also, diversification of the portfolio can further increase the return generated. Therefore, further research on the methods that can be implemented in the portfolio such that the return increases could be a possibility as well. The portfolio was made during the pandemic; therefore, the post-pandemic growth of the economy should be researched as well. In doing so, whether the return will increase or decrease could be ascertained as well. 

Conclusion

Based on the above research, it is certain that the portfolio will be able to generate a very high return in the future as the pandemic starts to decline and the economic status of the globe betters. However, the portfolio shows higher risks that need to be reduced using diversification that is achievable either by including other assets or excluding the currencies. In doing so, it must be kept in mind that the return generated by the portfolio should increase as well. The portfolio analysis has shown a scope of research that could be conducted in the future, and in doing so, the portfolio can be easily optimized. The optimization of the risk and return of the portfolio will result in improving the fund's overall status.

References

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