Question

You have been hired as financial analyst by ABC Corporation – a globally diversified mutual fund. Your employer is considering buying MC Electronics – a Korean company. Your boss has asked you to estimate beta for MC Electronics. You have decided to use the following model to estimate beta. RNokia = α + β(RM) + ε Discuss how will choose RM?

Answer 1

The question is related to Systematic Risk β, So it is that part of total risk which is caused by the many factors which is beyond the control of the any firm and such factors are Political, Economic and social factors.  

It is to be noted that Systematic Risk is to determained by regressing a security's return on the total market return. Hence, the risk of any investments can not be determined without any references are made in terms of Returns.

Therefore, RM is the return that one expect it from market. The Systematic Risk is measured by Beta.

The Investors has to tactfully choose Beta since it measures the relative Risk of any security that is compared with the market. It is important to understand that if Beta > 1, it denotes Riskier than average security and if Beta < 1, it denotes it is safter than average security and consistant. Therefore, one has choose RM very carefully and can be estimated by the regression formula or model relating to any stock returns to the Market Returns.