Suppose volatility of the stock market is 20%. Suppose I always short stocks. What would be...

Suppose volatility of the stock market is 20%. Suppose I always short stocks. What would be the volatility of the return of my strategy?

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Expert Solution

Volatility of the stock market is 20% and it would be related to beta of the market and I would be trying to find my rate of return according to the Capital Asset pricing model by trying to determine its Pro placing risk free rate which could be currently in this period of time as 2%.

If you look for the market is premium which is currently at 5%and we will be trying to calculate it through expected rate of return after apportionment of Beta which will be reflecting the systematic risk associated with taking a short position(all the data has been assumed)

Expected rate of return =Risk free rate+(beta X market risk premium)

= 2+(1.2)x5

= 8%

The expected rate of return of individual while taking a short position will be higher than that of the market when taking a short position and the volatility of this study will also be higher as volatility could be referred to the beta of taking this strategy if the market volatility is 20% and if we assign sensitivity of more than 1, like if we are assigning the volatility of 1.3, then the volatility of my strategy will be 60%.

jeff jeffy answered 2 years ago

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