Question

You have been hired as a financial analyst and given the following data:
Stock	Beta	Expected return
A	1.25	12%
B	0.75	17%
C	0.50	9%
Market	1.00	12%
The expected risk-free rate is 3% Required: 1. Define: risk, return 2. Discuss the type of risks 3. Find the required return for each stock, 4. What action do you recommend for each stock, explain?

Answer 1

1) Risk is defined as a negative deviation from the expected outcome which an investor has from an investment. when an Investor is making an investment, the risk is he might lose his capital or the returns would not be very good.

Return is the value normally calculated in percentage terms which what the investor has either achieved or is expected to generate from the investment being made.

2) Broadly there are two types of risk, Systematic risk and Non systematic risk. Systematic risk is the risk which is common across all securities and can not be reduced by diversifying your portfolio. For example, war, inflation. Non systematic risk is the risk which is specific to one security and can be reduced by diversifying your portfolio. For example, the risk of falling in demand for one particular sector like steel.