PAPER REQUIREMENTS

GRADING CRITERIA
The papers will be graded on a number of criteria. Among these are:
1.
Content: complete set of references are important.
2.
Logical progression: see Writing Guide.
3.
Presentation of the tables, figures, and data. They should be presented in a professional
manner. See Writing Guide!
4.
Writing style and whether the writing guidelines were met.
INTERNATIONAL PORTFOLIO INVESTMENT
TO BE DONE
Length: Three page executive summary plus graphs and data from spreadsheet in an Appendix.
Paper focus: Analyze the feasibility of international portfolio diversification. Would you
diversify internationally? Examine the lowest risk portfolio and the notion of risk and return.
Would you include emerging markets into your stock portfolio? Calculate the Sharpe
performance measure for each market examined.
Already DONE, see attached excel file for details
Directions
See the materials in Chapter 15.
Create a graph between the standard deviation (risk) and return of an international portfolio
consisting of the U.S. (or S&P 500) and the EAFE (Europe, Australia, Far East) index (U.S.
dollar returns). See page 467. Use the most current data from Morgan Stanley Capital
International. Next, construct a portfolio with the world index and the emerging markets (U.S.
dollar returns).
Use the following equations:
Equation 1: rp = arUS + (1-a)rEAFE
where r = average rate of return on equity over the period;
p = portfolio;
a = weight (0, 0.1, 0.2, 0.3, ..., 1) These weights change in ten percent increments, so there are
eleven combinations to compute for the risk and return that can be graphed.
Equation 2: p = [a22US + (1-a)22EAFE + 2a(1-a)USEAFEUS,EAFE]
2 = variance
= standard deviation;
US,EAFE = correlation between the two markets.
The variance is a measure of dispersion expressed in squared deviations. It is the average
squared deviation from the mean, or on average how far away are observations from the mean.

The standard deviation also describes dispersion and is the square root of the variance. An
important difference is that it is measured in the same units as the data.
The portfolio standard deviation is the standard deviation of the U.S. market, the standard
deviation of the EAFE, and how the two are related.
Correlation measures how strongly two variables are related. The correlation coefficient can
range in value from 1 to -1. If the correlation coefficient is high, then the benefits to
international diversification are low. As long as the correlation between the two markets is not
perfect, then there are benefits from international diversification.
Data:
Morgan Stanley Capital International/ Barra.
http://www.msci.com/products/indices/country_and_regional/all_country/performance.html
There is a tab that says Country. Hit that tab. Next, you will need to go to the Market tab below
and change it to the Developed Countries. Hit the search button on the right. You will need the
U.S., World, and EAFE indices. Finally, go to the Emerging market page and get the Emerging
markets index.
The data is a daily index. You will need to create a rate of return by the following:
(It+1 - It)/It * 100
For example:
If the world index in April 12, 1999 was 1,233.06 and 1187.54 in April 11, 1999, then the rate of
return was (1,233.06-1,187.54)/1,187.4 * 100 = 3.83% for that day.
Excel Commands:
To create the first equation, you must first get the averages of all the rates of return. Use the
Average command under Insert, Functions, Statistics.
You must use the graph XY scatter option to create a chart.
For example:
If the U.S. average rate of return over the period was 1.95% per day and the EAFE rate was
0.59% per day, then the rate of return on an international portfolio with 80% U.S. stocks (a=0.8)
and 20% EAFE stocks would be:
rp = (0.8)(1.95%) + (1 - 0.8)(0.59%) = 1.68%
To create the second equation, you must get the standard deviations and correlation between
series. Use the CORREL and STDEV under Insert, Functions, Statistics.
For example:

If the U.S. standard deviation was 3.96%, the EAFE standard deviation was 3.90%, and the
correlation between the U.S. and EAFE markets was 0.67, the standard deviation for an
international portfolio with 80% U.S. stocks (a=0.8) and 20% EAFE stocks would be:
p

(0.8) 2 (3.96) 2 (1 0.8) 2 (3.90) 2 2(0.8)(1 0.8)(3.96)(3.90)(0.667)

= 3.73

note: the standard deviation of the combination of the two assets is lower than either asset alone.