Question

There is an investment that returned 7.6% while having a 7.4 PE ratio and a risk evaluation of 1. Estimate the return on this investment assuming its 7.4 PE ratio and Risk evaluation of 1. What is the residual compared to the actual 7.6 return? |PE Ratio Risk Return |7.4 1.0 7.6 11.1 1.3 13.0 8.7 1.1 8.9 11.2 1.2 10.9 11.6 1.7 12.1 12.2 1.3 12.8 12.5 1.2 11.3 12.5 1.3 14.1 13.0 1.6 14.8 13.4 1.4 16.7

PLEASE SHOW STEPS AND BASIC FORMULAS USED FOR EQUATIONS AND CALCULATIONS.PREVIOUS CHEGG ANSWER CANNOT BE COMPREHENDED.

Answer 1

As a first step, we need to run a multi variate regression on the given data to obtain the relation ship between the three variables. Please put the data in an excel file, go to Data tab => Data Analysis => Choose Regression

Return is the Y Range and the other two are X Ranges.

Plese see the screenshot below:

Please see the solution of the regression below:

Hence, the regression equation is:

y = - 3.0093003 + 1.153651742X1 + 1.621233975X2 i.e

Return = - 3.0093003 + 1.153651742 x PE Ratio + 1.621233975 x Risk Factor

Hence, predicted return when PE ratio = 7.4 and risk factor is 1.0 will be

=  - 3.0093003 + 1.153651742 x PE Ratio + 1.621233975 x Risk Factor =  - 3.0093003 + 1.153651742 x 7.4 + 1.621233975 x 1 = 7.148956571 = 7.148956571%

Hence, residual = Actual - predicted = 7.6% - 7.148956571% = 0.451043429%

Please do round off as per your requirement.

And I sincerely hope that you are able to comprehend the solution this time.