Theory and concepts of creating a financial model Essay

Theory and concepts of creating a financial model - Essay fontManagement should be skeptical of the model assumptions that will be related to the recommendation. at that place be contrastive types of financial models that are utilise for various purposes. For example, a hard cash flow model is regarded as a powerful tool that can assist a financial team with project future capital punishment in a business venture by evaluating the effect of that type transaction such as an an acquisition and LBO(Shim 2007, 67)2. It is also able to calculate fades and perform ration analysis. Financial models for investment options or growth services are often custom developed in excel tacks as they take into bankers bill for unique characteristics such as cost structure, product market and competitive situation. The following guidelines should be used Outline the model the type of model structure that would include the general output and the key components.The weight down cost and the adv antages of the type of model will also be factored in. The forecasting future method should be used in any financial model (Fernholz 2002, 56). When constructing a cash flow model on that point are a number assumptions that must be included. In this kind of financial model, there is a deterministic approach that uses certain simplifications.Among them is the investment of return that is known and does not usually vary from course of study to year. Another important aspect is that this rate is the same rate that will be used to send away the reserves and the third aspect is that the ultimate loss ration will be accurately predicted. There are some concepts that one has to know when creating a financial model like a cash flow model. Firstly, you have to have to start with the in mind- This will be inclusive of whether you are price options of an investment or building3. With the Cash flow model, you should be able to check for assumptions. From this you would be able to lay truthf ully generate outputs with a certain number of inputs. This kind of model should be one that you are able to adjust automatically and should be dynamic depending on your inputs. This model does not hap board for a practice, like for instance, that will multiply a specific number of units with the determined price (Hambrook 2003, 95). This gives room in case the price might change in future. If you use a fixed formula and the prices change in the future, you will be forced to go the right cell of the Excel sheet and make changes every time the price changes. One of the major concerns that most investors have is determining the birth between the gamble and the return of a financial asset. This kind of information can be obtained in his portfolio. It is general knowledge that there is a good relationship between the risk and the expected return of a financial asset. In other words, when the risk of an asset increases, so does its expected return. What this means is that if an inv estor is taking on a big risk, he is expected to be compensated for doing so with a higher(prenominal) return of sales in the futures. Similarly, if the investor wants to boost or increase the the expected return of the investment, he necessarily to be prepared to take on more risk. This is the reason why a portfolio is used to give this important relationship. It is important to note that the concept of Modern Portfolio Theory to show the connection between the risk and return of a portfolio of financial assets. The three types of portfolios that will help us