Reading 15 EOC Q#5.B

Just to go a little further then what the answer says… To be able to choose which is the most attractive from a valuation perspective, what do you need? Is it the base cost or the target return?

I’m having a complete brain fart and can’t figure it out.


I think we need to calculate the sharp ratio to determine which one is the most attractive. You can’t say which one is the most attractive based on expected returns only, we need to consider risk.

that’s what I thought too, that’s why I was surprised it said you couldn’t determine it when there is enough information for you to figure out the sharpe ratio of each of the options.

Sharpe Ratio (note the e at the end too) – is a way to perform “relative” comparison. It just tells you which industry is attractive from a risk adjusted view point.

What do you need for valuation? You need to be having ratios such as P/B, P/E, P/S etc. which again allows you to arrive at a Price. Also you need the corresponding base number for each company (S, E or B which are arrived at in a comparable way). Only then can you determine the Price of one share of each company (Value) and then do a valuation based analysis.

Given in the problem you have ability to calculate Sharpe Ratio - so risk adjusted analysis / comparison is possible. You cannot arrive at a valuation based recommendation.

Thanks for pointing out the Sharp"e" Ratio, cpk123. At least it’s not in the exam.

AlmostDoneIII, I thought it was a wired question too. Yes we should be able to calculate the Sharpe Ratio for all the 3 industries, but the question was asking “Judge which industry is most attractive from a valuation perspective”, that’s why we couldn’t determine.

BTW, is this your 1st pass of the reading? Looks like we are at the same spot. I’m on Asset Allocation, which is behind my schedule. Wanted to finish the 1st pass by the end of March, but I’m only 35% done.

Much thanks for clarification. sounded much better coming from you than what my head was trying to tell me.