Question

- (a) Fill in the blanks in the following sentences with the most appropriate words by writing oaly the answers with serial numbers in the answer-book : (1) Beta is an index of the risk of an asset. (ii) Diversification does not reduce risk when the returns on two securities are correlated. (1) A year ago, you purchased some stock with a beta of 1.5. You have not noticed how well your stock has done during the year, but you do know that the T-bill rate has remained at 7% throughout the year. As you are driving down the road, you hear on the radio that the market return was 19% during the year. Given only this information, your expected return on your stock should be % (iv) The market is efficient if the market value of an asset already reflects historical price and trading volume information. (1) The substantial evidence in favour of the randomness of stock price behavior suggests that represents useless market folklore. (b) Consider two stocks, A and B : A d d Desdation (DA

Answer 1

Systematic Beta is a measure of a stock's volatility in relation to the market. It measures the exposure of risk a particular stock on sector has in relation to the market. If you want to know the systematic risk of your portfolio, you can calculate its beta. Positively Diversification provides benefit if the returns are not perfectly positively correlated. Furthermore, an investor can eliminate all non-systematic risk if the two assets are perfectly negatively correlated. Risk can seldom be eliminated (reduced to zero) through diversification, but it can be reduced. E(R)=RFR+ stockx(Rmarket-RFR) = 0.07+1.5 x (0.19-0.07) =25% where: E(R) =Required rate of return, or expected return RFR=Risk-free rate Bstock=Beta coefficient for the stock Rmarket=Return expected from the market (Rmarket-RFR)=Market risk premium, or return dbove the risk- free rate to accommodate additional unsystematic risk