Q1: Explain the meaning and significance of a stock's beta coefficient. Illustrate your explanation by drawing, onone graph, the characteristic lines for stocks with low, average, and high risk. (Hint: Let your three characteristiclines intersect at r_i=r_m=6%, the assumed risk-free rate.)Q2: Define the following terms, using graphs or equations to illustrate your answers where feasible.a) Risk, stand-alone risk b) Expected rate of return c) standard deviation, variance d) risk premium for stock i,market risk premium e) Capital Asset Pricing Model (CAPM)f) Expected return on a portfolio g) market risk, diversifiable risk h) Beta i) Security Market Line; SML equation j)Slope of SML and its relationship to risk aversion.Q3. Differentiate between (a) stand-alone risk and (b) risk in a portfolio context. How are they measured, and areboth concepts relevant for investors?Q4. Can an investor eliminate market risk from a portfolio of common stocks? How many stocks must a portfoliocontain to be "reasonably well diversified"? Do all portfolios with, say, 50 stocks have about the same amount ofrisk?Q5. A stock's return for the past 3 years were 10%, -15%, and 35%. What is the historical average return? What isthe historical sample standard deviation?

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Explain the meaning and significance of a stock's beta coefficient. Illustrate your explanation by drawing, on graph, the characteristic lines for stocks with low, average, and high risk. (Hint: Let your three characteristic intersect at r_ir_m=6%, the assumed risk-free rate.)

Explain the meaning and significance of a stock's beta coefficient. Illustrate your explanation by drawing, on graph, the characteristic lines for stocks with low, average, and high risk. (Hint: Let your three characteristic intersect at r_ir_m=6%, the assumed risk-free rate.)

Essentials Of Investments

11th Edition

ISBN:9781260013924

Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.

Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.

Chapter1: Investments: Background And Issues

Section: Chapter Questions

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Concept explainers

Classification Of Risk

Risk means when there could be a possibility that the returns expected from a particular project or investment may or may not match the investor's expectations. In other words, the uncertainty of an income arising from a source that would either be lower than expected or result in losses in risk exposure of the project. The higher the risk involved, the higher is the return expected by the investor as the investor is exposed to a high level of risk. There are various methods by which different types of risk can be assessed and avoided or mitigated.

Question

Q1: Explain the meaning and significance of a stock's beta coefficient. Illustrate your explanation by drawing, on
one graph, the characteristic lines for stocks with low, average, and high risk. (Hint: Let your three characteristic
lines intersect at r_i=r_m=6%, the assumed risk-free rate.)
Q2: Define the following terms, using graphs or equations to illustrate your answers where feasible.
a) Risk, stand-alone risk b) Expected rate of return c) standard deviation, variance d) risk premium for stock i,
market risk premium e) Capital Asset Pricing Model (CAPM)
f) Expected return on a portfolio g) market risk, diversifiable risk h) Beta i) Security Market Line; SML equation j)
Slope of SML and its relationship to risk aversion.
Q3. Differentiate between (a) stand-alone risk and (b) risk in a portfolio context. How are they measured, and are
both concepts relevant for investors?
Q4. Can an investor eliminate market risk from a portfolio of common stocks? How many stocks must a portfolio
contain to be "reasonably well diversified"? Do all portfolios with, say, 50 stocks have about the same amount of
risk?
Q5. A stock's return for the past 3 years were 10%, -15%, and 35%. What is the historical average return? What is
the historical sample standard deviation?

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Why is beta the theoretically correct measure of a stock’s risk?
How do you calculate the beta of stock?
A stock's risk has a component called _____________________, which can be minimized as we add more stocks to our portfolio. Select all that apply. A) market risk B) firm-specific risk C) diversifiable risk D) systematic risk
d. Interpret your results in (c) above, assuming that the historical average return of 8.5% from the stock is a good benchmark. e. Critically evaluate the strengths and weaknesses of applying the implied rate of return from the RIVM as a proxy of the expected return.
When we test CAPM using historical data, a classic test is to regress excess returns of stocks onto the stock betas, using the following regression specification across stocks: - Rp Rf =α+By+ε where Rup - Rf is the average excess return of a security or portfolio, ẞ is the estimated beta of the security or portfolio, & is the regression residual, and a (Alpha) and y (Gamma) are regression coefficients. Based on the regression, which of the following statements are true if CAPM is true? Select all two correct statements. The Alpha is zero The Alpha is positive The Gamma is positive The Gamma is zero
Syntex, Inc. is considering an investment in one of two common stocks. Given the information that follows, which investment is better, based on the risk (as measured by the standard deviation) and return? Common Stock A Common Stock B Probability Return Probability Return 0.35 13% 0.25 −7% 0.30 17% 0.25 8% 0.35 21% 0.25 15% 0.25 23% (Click on the icon in order to copy its contents into a spreadsheet.) Question content area bottom Part 1 a. Given the information in the table, the expected rate of return for stock A is enter your response here%. (Round to two decimal places.)
Assume the CAPM holds and consider stock X, which has a return variance of 0.09 and a correlation of 0.75 with the market portfolio. The market portfolio's Sharpe ratio is 0.30 and the the risk-free rate is 5%. (a) What is Stock X's expected return? (b) What proportion of Stock X's return volatility (i.e. standard deviation) is priced by the market? Explain why this number is less than 1.
The beta of a portfolio is: A. A measure of the correlation of betas of the securities in the portfolio. B. Always greater than one. C. The market value weighted average beta of the securities in the portfolio. D. The geometric average of the beta of the securities in the portfolio.
Consider the following probability distribution for stocks A and B: State Probability Return on Stock A Return on Stock B 1 0.10 10% 8% 2 0.20 13% 7% 3 0.20 12% 6% 4 0.30 14% 9% 5 0.20 15% 8% The coefficient of correlation between A and B is:
The Capital Asset Pricing Model (CAPM) says that the risk premium on a stock is equal to its beta times the market risk premium. ..... True False
The beta of a firm's stock can be estimated as the slope of the best fitting straight line through a plot of the stock's excess returns (on the x axis) versus the excess market returns (on the y axis). True False
Over time beta coefficients tend to approach the beta value of the market portfolio. O True False

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