Introductory description

This is an elective module available for WBS and non-WBS students. To find detailed availability and to apply for this module, log in to my.wbs.ac.uk using your normal IT login details and apply via the my.wbs module application system. Once you’ve secured a place on my.wbs you should apply via your home department’s usual process, which usually takes place via eVision. Note that you do not require the module leader’s permission to study a WBS module, so please do not contact them to request it.

This is a second-level module in Finance for third- or fourth-year Undergraduate students which focuses on topics in Asset Pricing, i.e. the valuation of traded financial assets.

The module aims to introduce the workings of the equity, bond and derivative markets, and equip students with the skills and understanding to use quantitative tools for pricing stocks and bonds, forwards and options. Students will develop their critical understanding of the trade-off between risk and return, and of techniques for exploiting that trade-off to optimal effect.

Module web page

Module aims

Outline syllabus

This is an indicative module outline only to give an indication of the sort of topics that may be covered. Actual sessions held may differ.

Financial Arithmetic - Discounted cash flow, annuities, perpetuities, Gordon growth model, net present value, internal rate of return.

Investment under Certainty - Inter-temporal consumption, Fisher Separation.

Investor Preferences - Risk aversion, Expected utility.

Optimal Portfolio Selection - Diversification, Risk vs. Return, Capital Allocation Line.

Capital Asset Pricing Model - Beta, CAPM, Capital Market Line and Securities Market Line

Bonds & Interest Rates - Spot rates, forward rates, bond pricing, term structure of interest rates, Pure Expectations and Liquidity Preference hypotheses.

Market Efficiency - Efficient Markets Hypothesis, calendar anomalies, speculative bubbles, empirical tests.

Financial Derivatives - Arbitrage-free futures pricing, binomial and Black-Scholes option pricing.

Learning outcomes

By the end of the module, students should be able to:

• Distinguish between systematic and non-systematic risk and contrast the implications of bearing each type of risk.
• Solve numerical exercises demonstrating how to construct optimal portfolios of risky securities under different scenarios.
• Critically evaluate key theoretical models of the relationship between risk and return, the relationship between bond values and interest rates and the relationship between prices of traded assets and derivatives on that asset.
• Formulate different hypotheses of the term structure of interest rates and evaluate their implications in practice.
• Critically appraise the results of key tests of the Efficient Markets Hypothesis.
• Evaluate and synthesize different theoretical frameworks to address complex investment scenarios and justify the selection of specific modelling approaches.
• Evaluate the limitations of existing theoretical models and propose modifications to address specific market conditions or investment constraints.
• Critically evaluate empirical evidence against theoretical predictions and formulate explanations for observed discrepancies.
• Communicate complex ideas effectively.

Indicative reading list

REQUIRED TEXT:

Hillier D, Ross SA, Westerfield RW, Jaffe J and Jordan BD, Corporate Finance (5th ed. 2024), McGraw-Hill

OTHER TEXTS:

Bodie Z, Kane A & Marcus AJ, Investments (13th ed. 2023), McGraw-Hill

Copeland TE, Weston JF & Shastri K, Financial Theory and Corporate Policy (4th ed. 2013), Pearson Addison-Wesley

Subject specific skills

Use pricing formulae to calculate the values of traded financial securities.

Critically evaluate key issues in asset valuation.

Create optimal portfolios of financial securities for given scenarios and critically assess the impact of investor characteristics on portfolio composition.

Distinguish between forward rates and expected future spot interest rates.

Formulate trading strategies to take advantage of arbitrage opportunities in markets for forwards and futures, options and bonds.

Transferable skills

Assess the appropriate model for pricing a financial asset and evaluate the price using the model.

Critically appraise asset pricing models.

Interpret and critically evaluate financial market information.