Lesson 6 of 7 · 12 min

Risk and return of different equity securities

An equity's return is price change plus dividends (plus currency moves abroad); its risk is the uncertainty of that total return, which features like preference, cumulation, calls and puts raise or lower.

In short

  • Total return = (price change + dividend) ÷ beginning price: Rt=(Pt−Pt−1+Dt)/Pt−1R_t = (P_t - P_{t-1} + D_t)/P_{t-1}.
  • Young firms usually pay no dividends (return = price change only); mature firms return cash through dividends or buybacks.
  • For foreign shares or DRs, currency is a third source: a rising foreign currency adds to the return, a falling one subtracts.
  • Reinvested dividends compound and dominate long-run equity wealth.
  • Risk = uncertainty of future total return (of cash flows), usually measured by the standard deviation of total return, from history or from scenario probabilities.
  • Preference shares are less risky (and earn less) than common. Putable < non-callable < callable in risk; cumulative < non-cumulative.

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Risk and return of different equity securities · Overview of Equity Securities