Hi Tutor, I am not clear with below mentioned core reading. Please explain with the help of an example. If the expected return indicated by the multifactor model is lower than that indicated by the current share price the share appears cheap. Thanks Ayushi
Hi Ayushi, The salutation to your query is 'Hi Tutor', which raises a concern for me that you may feel this forum is offering a personal tuition service. I'm sorry, but we do not offer personal tuition via this forum. The tutors monitoring this forum do so in order to moderate responses to queries from other forum users and, if no responses are forthcoming, sometimes to interject with suggestions. As mentioned to you previously, before posting a query please scan to see if the question (or a similar one) has been asked before. In this instance one has, and I refer you to https://www.acted.co.uk/forums/index.php?posts/6921/ If you require additional support, over and above that provided by this forum, then you may like to consider attending an SP5 tutorial. Best wishes David
Thank you so much sir for your help. Your help means a lot to me as I am preparing on my own. I understand your point and feel sorry for increasing your burden. I will keep this in mind for future. Thanks again for your support David.
From what I understand: The expected return for a share consists of a range of factors, it compensates investors for (marketability risk, liquidity risk, market risk, etc.) and it also provides investors a component of return for providing financing. The price of the share reflects this "expected return". So if an investor purchases a share for a certain amount, they would have their own opinion of the expected return based on the prevailing market conditions. The multifactor model uses a range of covariates to estimate the expected return for a specific share. The expected return implied by the market is readily available and forms part of public information. However using your own data, assumptions, and models, your multifactor model can produce results that indicate that the expected return is actually lower than the current share price. The key thing to note here is that the notes assume that the dividend discount model is used to price the shares available in the market. From the dividend discount model, we see that the higher the expected return, the lower the price of the stock and vice-versa. If our multifactor model suggests that the expected return is lower than what the market suggests, then it means that the price of the stock is actually higher than what the market suggests. Thus it would be "cheap" in this case. Hope this helps.
