Computer assignment Financial Modelling and Derivatives 2022-2023

Note: You can do the assignment in your own time over the span of a week. A report of max.
7 pages with your results must be uploaded to Canvas. Upload both a report (in pdf) as well as
the datafile (in Excel). The deadline for submission is Friday March 3rd 2023 23.59h.

If you fail to upload the assignment before the deadline the grade for the assignment is a 1. If
your group earns an insufficient grade on the computer assignment, there is a possibility to
resubmit the assignment in week 7 (the week before the exam) with a maximum grade of 6.0.
The revised version will consist of the same assignment with new data with a deadline at the
end of week 7: Friday March 24th at 23.59h.

Assignment instructions

• The assignment has to be done in groups of 2-4 students. Add your names and student
numbers to the assignment you hand in.
• The deadline for submission is Friday March 3rd 23.59 (CET = Amsterdam time).
• Hand in the assignment through Canvas in two documents:
o A report in pdf of max. 8 pages in which you explain what you did.
o A data-file (Excel) that shows your data.

Report:

• Add the plagiarism statement (see below) to the top of the assignment you hand in.
• Documents in pdf-format are accepted. Any other file-type (.doc, .txt) will be discarded.
• Use the font: Times New Roman, 12pt, 1.5 line spacing. Margins of at least 2 cm
(almost any standard text editor will have margins over 2 cm as a the ‘normal’ setting).
Use of other fonts, line spacing or margins (usually used by students to squeeze in more
text) will result in a deduction from the grade. The idea behind the assignment is for
you to deliver your message concisely.
• The text in the pdf document needs to be selectable as text. DO NOT import a picture
of text. So: DO NOT write on scrap paper and scan it in. Write in a text editor and
export to pdf.
 • Graphs in the pdf document do not need to be selectable as text. Graphs can be scanned
or imported from other files.
• Make sure all the essential information is in the main body of the report. Adding
appendices with additional information is fine. However: Assume appendices will not
be read. The need-to-know has to be in the text, nice-to-know can go in the appendix.
• Do NOT refer to the datafile for essential information. All your reasoning should be
clear from the report. The datafile is only there to back up your work, not to explain
your reasoning. Jotting down ‘See the Excel-file’ as the reasoning will automatically
be regarded as incorrect.
• Explain your reasoning. If your answer to a given problem is simply a number, it will
automatically be regarded as incorrect, because it’s impossible to tell where that number
comes from. In general, write out the formula you’re using, then the calculation, then
the final answer.
• Similarly, don’t explain what you did by writing down the formulas you entered into
the Excel-file, because that does not show that you understand what you are doing.
Instead, make sure to explain conceptually what you’re doing.
• If you hand in a report that is longer than 8 pages, only the first 8 pages will be read.
• The list of references (at the end of the report) does not count towards the page limit.
You can refer to as much literature as you want.
• Adding a table of contents or introductory page is fine, but counts towards your page
limit. For an 8-page report, these are simply not necessary.

Data-file:

• Layout matters. Make sure the data-file is easily understood and readable to an outsider.
• You can use whatever software you want to perform the analysis, but the data has to be
presented in Excel.
• Make sure all your reasoning is in the report. In principle, assume that the reader will
not read the data-file, so that all the reasoning needs to be in the report. However, in
case the reader does want to read the data-file, make sure that the datafile is easy to
assess.
General instructions:

• DO NOT PLAGIARIZE. Talking to other groups and asking for their advice is fine and
encouraged, copying each other’s answers (or answers from any other source) is not. If
plagiarism is detected or suspected, your case will automatically be handed over to the
Examination Board. You DO NOT want this to happen, do not risk your student career
over a single assignment. Make sure your work is your own.
• Explain what you are doing. Don’t just jot down a couple of numbers and expect us to
be able to tell what’s going on. Explain your reasoning, write out formulas before you
fill in the numbers. A full explanation of how you came to a number typically includes
a formula, a calculation, an answer and an explanation of why and how you used the
formula. Numbers that are presented without explanation will be regarded as incorrect.
E.g. suppose you need to calculate the required return on equity for a stock with a beta
of 1.5, risk-free rate of 2% and market risk premium of 5%. A bad answer would be:
9.5%. A better (but still fairly bad) answer would be 2% + 1.5 ∗ 5% = 9.5%. And a
reasonable answer would be: 𝐶𝐴𝑃𝑀: 𝑟𝑒 = 𝑟𝑓 + 𝛽𝑒 𝑀𝑅𝑃 = 2% + 1.5 ∗ 5% = 9.5%. A
good answer would also include the sources for the inputs. In short: Show your thought
process, don’t assume we can look in your head.

Questions:

• For any questions regarding the assignment (e.g. downloading data, data analysis,
general Excel knowledge), please don’t hesitate to send an e-mail to:

Daniël Worp (TA for this course): d.s.worp@student.vu.nl

• Please ask specific questions. Questions of the type ‘Can you look at my data and tell
me if I’m doing the right thing?’ will not be answered because the whole point of the
exercise is for you to analyse and present the data, not to let someone else analyse the
data for you. Similarly, questions like ‘What should I do for question 4?’ are not specific
enough to answer. Instead ask something like ‘For question 4, I’ve taken step x and y,
but it’s unclear to me if I need to do z1 or z2 for step z. Can you clarify this for me?’
Showing that you’ve put in effort goes a long way and helps us in actually answering
 your question. Specific questions will be answered within 24 hours and usually a lot
quicker than that.
• You can also ask questions on the computer assignment in the course Discord (check
the Canvas announcements for the link).
• Note that we don’t have access to the back-end of FactSet. If you have trouble accessing
FactSet, either contact FactSet’s customer service (if the problem is on FactSet’s end)
or VU Data Services (if the problem is on the VU’s end).
• You are free to use any non-Excel software to perform the analysis (e.g. Python, R,
Stata, SPSS). However, if you choose to do so, this does mean that we also expect you
to solve software-specific issues yourself. Note that you also need to convert the datafile
into Excel when handing in your datafile.

Plagiarism statement (add to the top of your assignment)

I hereby certify that the answers to this assignment are my own work and my work alone. I also
certify that the content in this document has not previously been submitted for any other
assignment in this course or any other course, and that I have not copied or otherwise
plagiarized the work of others.
Computer assignment Financial Modelling and Derivatives 2022-2023

Returns, Volatilities, and Correlations

1. Download daily and weekly historical stock returns for 4 well-known stocks from either
S&P500, FTSE 100, STOXX Europe 600 or AEX for the last ten years.1 (use e.g.
Factset).
2. Now you have 4 time-series of return data. Compute (1) daily and weekly returns, (2)
average daily and weekly returns and (3) daily and weekly volatilities for each series in
the dataset. Translate the estimated historical averages and volatilities into annualized
terms.
3. Verify whether computing weekly volatilities from daily returns and estimating weekly
returns provides you with approximately the same volatilities or not. If there is a slight
difference, briefly explain why.
4. Annualize the returns from daily data. Provide the 95% and 99% confidence intervals
of the estimated annualized returns. What is your prediction for next year’s returns
based on your estimate?
5. Compute covariances and correlations between each pair of stocks. Present them in the
form of a correlation matrix. Again, compare correlations obtained from daily returns
and from weekly returns and discuss the similarities or differences.
6. Comment on the correlations between the returns you found in (5). Compare the pair
of stocks with the highest correlation to the pair of stocks with the lowest correlation.
Explain why the first pair of stock returns has a higher correlation than the second pair.
7. Compute yearly volatilities from daily data and plot them on a graph (so: 10
observations for each of 4 series). Discuss whether the volatilities remain constant or
change from year to year and explain why.
8. Compute the volatility of an equally weighted portfolio of these four stocks. Use the
entire dataset and either daily or weekly data. Do it by means of the portfolio volatility
formula using the values of covariances and variances obtained above, and also by
using the historical data (so compute daily portfolio returns and calculate historical
volatility). Convert both obtained volatilities into annualized volatilities and compare

1
If you’re interested in a company that has been listed less than 10 years, you can use the date the stock has
been listed as the starting date. However, it can’t be shorter than 5 years. If that’s the case, choose another stock.
 the formula answer with the historical value. Are the values the same? Explain why
(not).
9. (Challenge – Not for the faint of heart) Choose portfolio weights such that the variance
of the portfolio is minimized (hint: use the Solver function in Excel). Explain how you
obtained the minimum variance.
10. (Challenge – Not for the faint of heart) Create the graph of the efficient frontier of the
4 stocks.

Betas and event study

11. Continue with daily returns. Download daily benchmark returns (S&P500 or whichever
appropriate market index you used) for the same historical period. Compute beta’s for
all four stocks. Report estimated values of market betas together with their 95%
confidence bounds.
12. For the stocks above, estimate the average daily beta per year and observe, using an
appropriate graph to examine whether beta’s remain constant or change in time. Take
the share with the biggest change in beta. What happened to the company for the beta
to change so much?
13. For one of the stocks you’ve selected, select an event.2 Describe the event in detail and
explain why you expect the event to significantly affect the share price.
14. Estimate the beta of the stock up to a month before the event. Is the beta the same as
the beta you calculated before? Explain why (not).
15. Estimate the expected returns of the stock during the event.3,4 Compare the actual
returns during the event with the expected returns to calculate the abnormal returns. Are
they as expected? Explain.

2
An event is an occurrence that can be reasonably assumed to have a significant effect on the share price. E.g.
the announcement of a merger or takeover, the introduction of a new product or product recall, or an unexpected
scandal or favor. Events are single occurrences that adjust the share price immediately, e.g. announcements.
3
During = Over three days, from 1 day before the event date until 1 day after the event date.
4
Most countries’ treasury rates can be found at the St. Louis Federal Reserve Economic Data (FRED) database:
https://fred.stlouisfed.org/ ; look for the market risk premium on Aswath Damodaran’s website
(http://pages.stern.nyu.edu/~adamodar/ ) and look up the market risk premium (under ‘Data’).
Valuation

16. Choose 1 of the 4 shares you’ve analyzed so far. Look up the risk-free rate of the
country where the company is principally based (if you’re unsure, make an
assumption). Hint: Most countries’ treasury rates can be found at the St. Louis Federal
Reserve Economic Data (FRED) database: https://fred.stlouisfed.org/
17. Go to Aswath Damodaran’s website (http://pages.stern.nyu.edu/~adamodar/) and look
up market risk premia (under ‘Data’) for the country where the company is principally
based.
18. What is the required return on equity for the company?
19. Look up the value of liabilities, look up the company’s market capitalization and
calculate the wacc (assume a 25% tax rate).
20. Look up operational cash flows for your companies from FactSet or the most recent
annual report. (You can use 𝐸𝐵𝐼𝑇(1 − 𝑡) + 𝐷𝑒𝑝𝑟𝑒𝑐𝑖𝑎𝑡𝑖𝑜𝑛 − 𝐶𝑎𝑝𝐸𝑥 as a shorthand).
21. Use the growing perpetuity formula to calculate the value of your selected company.
Assume growth is equal to the risk-free rate.
22. Compare the value you found above in with the market value of the company (market
capitalization + liabilities). If there are differences, comment on the differences.