Consider the two (excess return) Index-model regression results for stocks A and B. The risk-free rate over the period was 4%, and the market's average return was 11% Performance is measured using an Index model regression on excess returns. Index model regression estimates R-square Residual standard deviation, a(e) Standard deviation of excess returns Stock A 1% +1.2(rm -rf) Stock B 2% +0.8(rm -rf) 0.683 12.1% 0.49 20.9% 23.4% 28.5% Required: a. Calculate the following statistics for each stock: b. Which stock is the best choice under the following circumstances?
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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.
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- Consider the two (excess return) index-model regression results for stocks A and B. The risk-free rate over the period was 7%, and the market's average return was 14%. Performance is measured using an index model regression on excess returns. Index model regression estimates R-square Residual standard deviation, o(e) Standard deviation of excess returns. i. Alpha ii. Information ratio iii. Sharpe ratio iv. Treynor measure Stock A a. Calculate the following statistics for each stock: (Round your answers to 4 decimal places.) % Stock A 1% +1.2(rm rf) % 0.635 11.3% 22.6% Stock B % % Stock B 2% +0.8( rm -rf) b. Which stock is the best choice under the following circumstances? 0.466 20.1% 26.9% i. This is the only risky asset to be held by the investor. ii. This stock will be mixed with the rest of the investor's portfolio, currently composed solely of holdings in the market-index fund. iii. This is one of many stocks that the investor is analyzing to form an actively managed stock…Consider the two (excess return) index-model regression results for stocks A and B. The risk-free rate over the period was 7%, and the market's average return was 14%. Performance is measured using an index model regression on excess returns. Index model regression estimates R-square Residual standard deviation, o(e) Standard deviation of excess returns Stock A 1% +1.2(rm - rf) Stock B 2% +0.8(rm – rf) 0.635 0.466 11.3% 22.6% 20.1% 26.9% Required: a. Calculate the following statistics for each stock: b. Which stock is the best choice under the following circumstances? Complete this question by entering your answers in the tabs below. Required A Required B Calculate the following statistics for each stock: Note: Round your answers to 4 decimal places. i. Alpha ii. Information ratio iii. Sharpe ratio iv. Treynor measure Stock A Stock B % %Consider the two (excess return) index-model regression results for stocks A and The risk-free rate over the period was 6%, and the market’s average return was 14%. Performance is measured using an index model regression on excess returns. Stock A Stock B Index model regression estimates 1% + 1.2(rM – rf ) 2% + 0.8(rM – rf ) R-square 0.576 0.436 Residual standard deviation, σ(e) 10.3% 19.1% Standard deviation of excess returns 21.6% 24.9% Calculate the following statistics for each stock: Alpha Information ratio Sharpe ratio Treynor measure Which stock is the best choice under the following circumstances? This is the only risky asset to be held by the investor. This stock will be mixed with the rest of the investor’s portfolio, currently composed solely of holdings in the market-index fund. This is one of many stocks that the investor is analyzing to form an actively managed stock portfolio.
- Consider the two (excess return) index-model regression results for stocks A and B. The risk-free rate over the period was 6%, and the market’s average return was 13%. Performance is measured using an index model regression on excess returns. Stock A Stock B Index model regression estimates 1% + 1.2(rM − rf) 2% + 0.8(rM − rf) R-square 0.588 0.442 Residual standard deviation, σ(e) 10.5% 19.3% Standard deviation of excess returns 21.8% 25.3% a. Calculate the following statistics for each stock: (Round your answers to 4 decimal places.) stock A (%) Stock B (%) i. Alpha ii. Information ratio iii. Sharpe ratio iv. Treynor measure b. Which stock is the best choice under the following circumstances? i. This is the only risky asset to be held by the investor ii. This stock will be mixed with the rest of the investors' portfolio, currently composed solely of holdings in the market-index fund. iii. This is one…Consider the two (excess return) index model regression results for A and B. RA = 1.5% + 1.7RM R-square = 0.622 Residual standard deviation = 12% RB = -2.4 % +1.3RM R-square=0.468 Residual standard deviation = 9.8% Required: a. Which stock has more firm-specific risk? b. Which stock has greater market risk? c. For which stock does market movement explain a greater fraction of return variability? d. If rf were constant at 5.5% and the regression had been run using total rather than excess returns, what would have been the regression intercept for stock A? Complete this question by entering your answers in the tabs below. Required A Required B Required C Required D If rf were constant at 5.5% and the regression had been run using total rather than excess returns, what would have been the regression intercept for stock A? Note: Negative value should be indicated by a minus sign. Round your answer to 2 decimal places. Intercept %Consider the two (excess return) index model regression results for A and B. RA= 0.9% + 1.1RM , R-square = 0.590, and Residual Standard Deviation = 11% RB= -1.4% + 0.6RM, R-square = 0.456, and Residual Standard Deviation = 9.2% Which stock has more firm-specific risk, market risk, and greater fraction of return variability for market movement? Also, if rf were constant at 4.4% and the regression had been run using total rather than excess returns, what would have been the regression intercept for stock A (write as percentage, rounded to 2 decimal places)?
- Consider the two (excess return) index model regression results for A and B: RA = 0.8% + 1RM R-square = 0.588 Residual standard deviation = 10.8% RB = –1.2% + 0.7RM R-square = 0.452 Residual standard deviation = 9% a. Which stock has more firm-specific risk? A. Stock A B. Stock B Which stock has greater market risk? A. Stock A B. Stock B b. For which stock does market movement has a greater fraction of return variability? A. Stock A B. Stock B c. If rf were constant at 4.5% and the regression had been run using total rather than excess returns, what would have been the regression intercept for stock A? (Negative value should be indicated by a minus sign. Round your answer to 2 decimal places.)Consider the two (excess return) index model regression results for A and B: RA = 0.8% + 1RM R-square = 0.588 Residual standard deviation = 10.8% RB = –1.2% + 0.7RM R-square = 0.452 Residual standard deviation = 9% a. Which stock has greater market risk? multiple choice A. Stock A B. Stock B b. For which stock does market movement has a greater fraction of return variability? multiple choice A. Stock A B. Stock B c. If rf were constant at 4.5% and the regression had been run using total rather than excess returns, what would have been the regression intercept for stock A? (Negative value should be indicated by a minus sign. Round your answer to 2 decimal places.)Suppose the index model for stocks A and B is estimated with the following results: rA = 2% + 0.8RM + eA, rB = 2% + 1.2RM + eB, σM = 20%, and RM = rM − rf . The regression R2 of stocks A and B is 0.40 and 0.30, respectively. Answer the following questions. Total: (a) What is the variance of each stock? (b) What is the firm-specific risk of each stock? (c) What is the covariance between the two stocks?
- The beta of Exxon stock has been estimated as 1.6 using regression analysis on a sample of historical returns. A commonly-used adjustment technique would provide an adjusted beta of A. 1.20. B. 1.40. C. 1.32. D. 1.13.The historical rate of return on stock A was regressed on the rate of return of stock M (the explanatory variable). The slope of the regression line was 0.8, the standard deviation of the residuals was 0.3 and the standard deviation of the rate of return of M was 0.2. What was the standard deviation of the rate of return on A? Multiple Choice 0.460 None of the above 0.286 0.349 Next >Suppose the index model for stocks A and B is estimated with the following results:rA = 2% + 0.8RM + eA, rB = 2% + 1.2RM + eB , σM = 20%, and RM = rM − rf . The regressionR2 of stocks A and B is 0.40 and 0.30, respectively.(a) What is the variance of each stock? (b) What is the firm-specific risk of each stock? (c) What is the covariance between the two stocks?