Question

1. What discount rate would cause these two investments to have the same NPV?

   Year                         0             1            2              3             4
   Investment A                (46)           25          22             16             8
   Investment B                (46)          14          18               32             10
   (Show your answer as a percentage to 2 decimals, like 8.12% is 8.12)

b. Why can't systematic risk be diversified away? (You must answer in two lines or less. Complete sentences are not required.)

Answer 1

Solution>

For calculating the rate we have to use trial and error method, In the following excel, I have calculated the NPV values from rate 5% to 15%.

We can see that 10%. NPV of B is greater and at 11% NPV of A is greater. Thus we can see that our rate must lie between 10% and 11%.

At 10.32%, the NPV of both the projects are becoming same.

Part (b): Systematic risk is the portion of risk that pays the risk premium, because the risk associated with this particular segment of the market is more tightly linked to the risk of the market as a whole. This risk is present regardless of the amount of diversification undertaken by an investor. Hence it cannot be diversified.

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