Question

EXPECTED RETURNS

Stocks A and B have the following probability distributions of expected future returns:

Probability	A	B
0.2	(11%)	(27%)
0.2	3	0
0.3	11	21
0.2	22	27
0.1	40	41

A.Calculate the expected rate of return, r_B, for Stock B (r_A = 10.10%.) Do not round intermediate calculations. Round your answer to two decimal places.
%

B.Calculate the standard deviation of expected returns, σ_A, for Stock A (σ_B = 22.00%.) Do not round intermediate calculations. Round your answer to two decimal places.
%

C. Now calculate the coefficient of variation for Stock B. Round your answer to two decimal places.

Is it possible that most investors might regard Stock B as being less risky than Stock A?

1. If Stock B is less highly correlated with the market than A, then it might have a higher beta than Stock A, and hence be more risky in a portfolio sense.
2. If Stock B is more highly correlated with the market than A, then it might have a higher beta than Stock A, and hence be less risky in a portfolio sense.
3. If Stock B is more highly correlated with the market than A, then it might have a lower beta than Stock A, and hence be less risky in a portfolio sense.
4. If Stock B is more highly correlated with the market than A, then it might have the same beta as Stock A, and hence be just as risky in a portfolio sense.
5. If Stock B is less highly correlated with the market than A, then it might have a lower beta than Stock A, and hence be less risky in a portfolio sense.

Answer 1

A.

Expected Rate of Return for Stock A=10.1%

Expected Rate of Return for Stock B=10.4%

B.

Standard Deviation of Expected Return for Stock A=14.73%

Standard Deviation of Expected Return for Stock =14.73%

C.

Co-efficient of variation of stock A=1.46

Co-efficient of variation of stock B=2.12

In a stand alone sense, Stock A is less risky compared to stock B.

V. If Stock B is less highly correlated with the market than A, then it might have a lower beta than Stock A, and hence be less risky in a portfolio sense.