Using an example of two stocks (e.g., A and B) with hypothetical known values for the mean return and standard deviation (you should provide the numerical values), discuss how the Coefficient of Variation can be used to compare the relative risks of the two stocks. If the risk- free return is 1%, what are the Sharpe Ratios for the two stocks? How do you compare the returns of the two stocks using the Sharpe Ratios? What are the potential limitations of comparing risks and returns in this way?

Using an example of two stocks (e.g., A and B) with hypothetical known values for the mean return and standard deviation (you should provide the numerical values), discuss how the Coefficient of Variation can be used to compare the relative risks of the two stocks. If the risk- free return is 1%, what are the Sharpe Ratios for the two stocks? How do you compare the returns of the two stocks using the Sharpe Ratios? What are the potential limitations of comparing risks and returns in this way?

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

Problem 1PS

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When calculating the beta of security by running a simple regression in Excel, which of the following is NOT true? O The alpha or intercept coefficient in the output table measures by how much the security outperformed the market index, adjusted for risk. O The beta can be found in the X Variable coefficient cell in the output table. O The market index should be used as the 'dependent' variable Y. The returns for the security should be the 'independent' variable X. O If the R-Square in the output table is .20, that means that 20% of the variation in the dependent variable can be explained by variations in the independent variable.
Remember, the expected value of a probability distribution is a statistical measure of the average (mean) value expected to occur during all possible circumstances. To compute an asset’s expected return under a range of possible circumstances (or states of nature), multiply the anticipated return expected to result during each state of nature by its probability of occurrence. Consider the following case: Aaron owns a two-stock portfolio that invests in Happy Dog Soap Company (HDS) and Black Sheep Broadcasting (BSB). Three-quarters of Aaron’s portfolio value consists of HDS’s shares, and the balance consists of BSB’s shares. Each stock’s expected return for the next year will depend on forecasted market conditions. The expected returns from the stocks in different market conditions are detailed in the following table: Market Condition Probability of Occurrence Happy Dog Soap Black Sheep Broadcasting Strong 0.50 30% 42% Normal 0.25 18% 24% Weak 0.25 -24% -30%…
Which of the following stocks have the highest systematic risk? A. A stock with a high correlation to the market and a low return volatility. B. A stock with a low correlation to the market and a high return volatility. C. A stock with a high correlation to the market and high return volatility. D. A stock with a low correlation to the market and a low return volatility.
Consider the following linear regression model: (R₁-r)= a; + b(RMkt - rf) + e; The b; in the regression: O measures the deviation from the best fitting line and is zero on aver- measures the sensitivity of the security to market risk. measures the diversifiable risk in returns.
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.
Consider the following table, which gives a security analyst's expected return on two stocks in two particular scenarios for the rate of return on the market: Market Return 6% 22 Aggressive Stock -3% 35 Defensive Stock 4% 12 Required: a. What are the betas of the two stocks? b. What is the expected rate of return on each stock if the two scenarios for the market return are equally likely? e. What hurdle rate should be used by the management of the aggressive firm for a project with the risk characteristics of the defensive firm's stock if market return is equally likely to be 6% or 22% ? Also, assume a T-Bill rate of 4%.
Suppose the utility function is U = E(r) - 0.5Ao2. Draw the indifference curve corresponding to a utility level of 0.2 for an investor with a risk aversion coefficient of 3. Please note the vertical line indicates expected return, and plot standard deviation on the horizontal line.
Assume that using the Security Market Line (SML) the required rate of return (RA) on stock A is foundto be half of the required return (RB) on stock B. The risk-free rate (Rf) is one-fourth of the requiredreturn on A. Return on market portfolio is denoted by RM. Find the ratio of beta of A (A) to beta of B(B). d) Assume that the short-term risk-free rate is 3%, the market index S&P500 is expected to payreturns of 15% with the standard deviation equal to 20%. Asset A pays on average 5%, has standarddeviation equal to 20% and is NOT correlated with the S&P500. Asset B pays on average 8%, also hasstandard deviation equal to 20% and has correlation of 0.5 with the S&P500. Determine whetherasset A and B are overvalued or undervalued, and explain why. (Hint: Beta of asset i (??) =???????, where ??,?? are standard deviations of asset i and marketportfolio, ??? is the correlation between asset i and the market portfolio)Question 2. Foreign exchange marketsStatoil, the national…
Consider an environment of 40 individual risky securities and one risk free asset. One investoris selecting between the Markowitz mean-variance frontier framework and the index model inthe portfolio analysis. Answer the following questions: (a) How many parameters are used as the input to construct the mean-variance frontier (b) How many inputs are used for the index model? calculate aswell
Assume that using the Security Market Line(SML) the required rate of return(RA)on stock A is found to be halfof the required return (RB) on stock B. The risk-free rate (Rf) is one-fourthof the required return on A. Return on market portfolio is denoted by RM. Find the ratioof betaof A(A) tobeta of B(B). Thank you for your help.
Consider the following securities: state Probability A B A B H M L 0.2 0.5 0.3 с 6 10 6 3 7 12 2 5 14 1. The expected payoff of A is: 2. The standard deviation of A is: 3. If the price of A is 3, its expected return is: 4. The covariance between A and B is: 5. The correlation coefficient between A and B is: 6. Is it possible to build a portfolio that has zero variance using A and C? YES/ NO
If markets are efficient then: All stocks will have the same expected returns All stocks will have the same risk Two stocks will the same volatility will have the same expected returns Two stocks with the same priced risks will have the same expected returns

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