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The beta coefficient A stock's contribution to the market risk of a well-diversified portfolio is called risk. According to the Capital Asset Pricing Model (CAPM), this risk can be measured by a metric called the beta coefficient, which calculates the degree to which a stock moves with the movements in the market. Based on your understanding of the beta coefficient, indicate whether each statement in the following table is true or false: Statement True False A stock that is more volatile than the market will have a beta of less than 1.0. Over time, a stock with a beta of 1.0 produces a return that goes up and down with a 1:1 relationship with the return on the market Beta measures the volatility in stock movements relative to the market. There are different ways of calculating the beta coefficient for a stock. Using the information given in the following table, calculate the beta coefficient of Stocki: Data 35.00% 32.00% Stock I's standard deviation Market's standard deviation Correlation between Stock i and the market Beta coefficient of Stock i: 0.65 To calculate the beta of another company, using regression analysis, you get the value of Ra as 0.27. Based on your calculation, which of the following interpretations is true? The percentage of variance in the company's stock explained by the market is lower than that of a typical stock. The percentage of variance in the company's stock explained by the market is higher than that of a typical stock.

Sagot :

Solution :

1. The relevant risk is considered as the "unknown unknowns" which may occur due to the risk in everyday life. In all risky investments, it is unavoidable. The contribution of the stock to the market risk in a well diversified portfolio is called as the relevant risk. Diversification is the main strategy for minimizing the relevant risk.

2.

Statement : A stock that is more volatile than the market will have a beta of less than 1.0.

---- False, as it will be more volatile with that of the market.

Statement : Over time, a stock with a beta of 1.0 produces a return that goes up and down with a 1:1 relationship with the return on the market

---- True as beta of the market is 1 and therefore, the stock beta is also 1.

Statement : Beta measures the volatility in stock movements relative to the market.

--- True. The beta measures all the volatility in the stock moments relative to the market.

3. We know that :

[tex]$\text{Beta= Correlation coefficient} \times \frac{\text{SD of stock}}{\text{SD of market}} $[/tex]

        [tex]$=0.65 \times \frac{35}{32}$[/tex]

        = 0.71

4.  The percentage of the variance in the stock of the company that is explained by the market is lower than that of the typical stock.

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