Consider the following scenario: Rate of Return Scenario Prob. Stocks Bonds Recession .20 -5% 14% Normal . 60 15% 8% Boom .20 25% 4%___ 1. What is the expected return for each investment? Bonds: Stocks: Portfolio (40% in bonds, 60% in stocks): 2. What is the risk for each investment? Bonds: Stocks: Portfolio (40% in bonds, 60% in stocks): 3. Which investment do you prefer? A. Bonds B. Stocks C. Portfolio
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.
Consider the following scenario:
Scenario Prob. Stocks Bonds
Recession .20 -5% 14%
Normal . 60 15% 8%
Boom .20 25% 4%___
1. What is the expected
Bonds: Stocks: Portfolio (40% in bonds, 60% in stocks):
2. What is the risk for each investment?
Bonds: Stocks: Portfolio (40% in bonds, 60% in stocks):
3. Which investment do you prefer?
A. Bonds B. Stocks C. Portfolio
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