Question

alk-Through Stock X has a 9.5 % expected return, a beta coefficient of 0.8, and a 30 % standard deviation of expected returns. Stock Y has a 12.5 % expected return, a beta coefficient of 1.2, and a 25% standard deviation. The risk-free rate is 6 %, and the market risk premium is 5%. a. Calculate each stock's coefficient of variation. Do not round intermediate calculations. Round your answers to two decimal places. CV 3.16 CVy 2 b. Which stock is riskier for a diversified investor? I. For diversified investors the relevant risk is measured by beta. Therefore, the stock with the higher beta is less risky. Stock Y has the higher beta so it is less risky than Stock X. II. For diversified investors the relevant risk is measured by beta. Therefore, the stock with the higher beta is riskier. Stock Y has the higher beta so it is riskier than Stock X III. For diversified investors the relevant risk is measured by standard deviation of expected returns. Therefore, the stock with the higher standard deviation of expected returns is riskier. Stock X has the higher standard deviation so it is riskier than Stock Y. IV. For diversified investors the relevant risk is measured by beta. Therefore, the stock with the lower beta is riskier. Stock X has the lower beta so it is riskier than Stock Y. V. For diversified investors the relevant risk is measured by standard deviation of expected returns. Therefore, the stock with the lower standard deviation of expected returns is riskier. Stock Y has the lower standard deviation so it is riskier than Stock X. -Select- c. Calculate each stock's required rate of return. Round your answers to one decimal place. % % ry= d. On the basis of the two stocks' expected and required returns, which stock would be more attractive to a diversified investor? -Select- e. Calculate the required return of a portfolio that has $4,500 invested in Stock X and $1,500 invested in Stock Y. Do not round intermediate calculations. Round your answer to two decimal places. % Tp = f. If the market risk premium increased to 6%, which'of the two stocks would have the larger increase in its required return? -Select-

Answer 1

Sol As given in the question - Beta Standard Derration Expected Return G.S . 12.5% 0.8 Stock x Stock y 30% 25) 1-2 Risk- free rate – 67 & Market Risk Premium - 5% Coefficient of Variation - Standard deviation Eupected Return Stock X - CV = 30 - 3.16. 9.5 Stork Y - CV & 25 & 2. 12.5 For a diversified investor risk is measured by Beta. Therefore, the stock with lower beta is riskier. Stock x. has the lower Beta so it is riskier than Stock Y. option 10 is the answer As per CAPM Re - Rp t (Rm - Rp) B Stock 8 Stock y = = 6 + 6 + ( 5 ( 5 o. 8 1.2 - = 10% 12.1

Stock x Stock y Eupected Return 9.54. 12.5% Regreired Return 10% 12'). For a diversified investor Stock y will be more attractive since its E(R) > Re ie 12.5%> 124. Beta of the portfolio + 1.2. 1500 x 6000 4500 x 0.8 6000 2 0.6 + Bp = 0.9. 0.3 As per Re CAPM - of the portfolio - Re (Rm - R 4) Bp. 6+ 58o.9 10.5 % When market risk premium increases to 6%, stock with higher beta will have a large increase in its required rate of return- Stock X = Rez B + 6X0.8 Stock y Re= 6 + 6x 1-2 - 10.8%.. z 1302% . Stock Y8 he has from 121 to 13.2% stork X's change in increased largely, compared to Re from 10% to 10.8%