TAKE HOME ASSIGNMENT ON BUS 417 (SOLUTION) – INVESTMENT ANALYSIS

For: Questions and answers email: theotherwomaninmarriage@gmail.com

Note:  You may not include this question on the assignment.  Just the solution below: 

 

Ambrose Green, 63, is a retired engineer and a client of Clayton Asset Management Associates (“Associates”).   His accumulated savings are invested in diversified Global Fund (“the fund”),  an in-house investment vehicle with multiple portfolio managers through which associates manage nearly all client asset on a pooled basis.  Dividend and capital gain distributions have produced an annual average return to Green of about 8% on his $900,000 original investment in the fund, made six years ago.  The $1,000,000 current value of his fund interest represents virtually all of green’s net worth. 

Green is a widower whose daughter is a single parent living with her young son.  Although Green is not an extravagant person, his spending has exceeded his after – tax income by a considerable margin since his retirement.  As a result, his non-fund financial resources have steadily diminished and now amount to $10,000.  Green does not have retirement income from a private pension plan, but he does receive taxable government benefits of $1,000 a month.  His marginal tax rate is 40%.  He lives comfortably in a rented apartment, travels extensively, and makes frequent cash gifts to his daughter and grandson, to whom he wants to leave an estate of at least $1,000,000.

Green realizes that he needs more income to maintain his lifestyle.  He also believes his assets should provide an after-tax cash flow sufficient to meet his present $80,000 annual spending needs, which he is unwilling to reduce.  He is uncertain as to how to proceed and has engaged you, a CFA charter-holder with an independent advisory  practice, to counsel him. 

Your first task is to review Green’s investment policy statement. 

AMBROSE GREEN INVESTMENT POLICY STATEMENT

Objectives

a.    “I need a maximum return that includes an income element large enough to meet my spending needs, so about a 10% total return is required”.

b.    “I want low risk, to minimize the possibility of large losses and to preserve the value of my assets for eventual use by my daughter and grandson”

Constraints:

a.    With my spending needs averaging about $80,000 a year and only $10,000 of cash remaining, I will probably have to sell something soon”

b.    “I am in good health and my noncancelable health insurance will cover my future medical expenses”

You are required:

1.    Identify and briefly discuss four key constraints present in Green’s situation not adequately treated in his investment policy statement.

2.    On the basis of your assessment of his situation and the information presented in the introduction, create and justify appropriate return and risk objective for Green.

SOLUTION:

THE CONSTRAINTS:

The followings will be used to identify the four (4) keys constraints present in Green’s situation not adequately treated in his investment policy statement.  

a.    Unique Circumstance

b.   Time Horizon

c.    Cash Requirement

d.   Liquidity

UNIQUE CIRCUMSTANCE

Green has the responsibility of making frequent cash gifts to his daughter and grandson to whom he wants to leave an estate of at least $1,000,000.

TIME HORIZON

Green requires an asset mix that has a very short maturity period taking into cognizance his present age (63)

CASH REQUIREMENT

Green requires a future cash of at least $1,000,000 and an after tax cash flow sufficient to meet his present $80,000 annual spending needs.

LIQUIDITY

Green requires an asset mix that can be easily converted to cash without any significant loss in the value of the asset.

 REQUIRED RETURN

Ambrose Green requires an investment that would provide an annual steady stream of income of about 10% return on investment to meet his present $80,000 annual spending needs.

Ambrose Green also requires an investment that could bring about a significant growth to his &900,000 original investment to enable him realize his goal of leaving an estate of at least $1,000,000 for his daughter and grandson.

RISK TOLERANCE LEVEL

Ambrose Green has a lesser tolerance for risk and therefore requires that his portfolio be designed in favour of bonds than stock because, stocks are riskier than bonds, although earns higher returns than bonds.