Assume that a risk-averse investor owning stock in Miller Corporation decides to add the stock of either Mac or Green Corporation to her portfolio. All three stocks offer the same expected return and total variability. The correlation of return between Miller and Mac is −.05 and between Miller and Green is +.05. Portfolio risk is expected to:a. Decline more when the investor buys Mac.b. Decline more when the investor buys Green.c. Increase when either Mac or Green is bought.d. Decline or increase, depending on other factors.
Risk and return
Before understanding the concept of Risk and Return in Financial Management, understanding the two-concept Risk and return individually is necessary.
Capital Asset Pricing Model
Capital asset pricing model, also known as CAPM, shows the relationship between the expected return of the investment and the market at risk. This concept is basically used particularly in the case of stocks or shares. It is also used across finance for pricing assets that have higher risk identity and for evaluating the expected returns for the assets given the risk of those assets and also the cost of capital.
Assume that a risk-averse investor owning stock in Miller Corporation decides to add the stock of either Mac or Green Corporation to her portfolio. All three stocks offer the same expected return and total variability. The correlation of return between Miller and Mac is −.05 and
between Miller and Green is +.05. Portfolio risk is expected to:
a. Decline more when the investor buys Mac.
b. Decline more when the investor buys Green.
c. Increase when either Mac or Green is bought.
d. Decline or increase, depending on other factors.
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