Question

Question 1

What is the relationship between risk and reward for critically evaluating a large portfolio?What's different about individual stocks?

Question 2

Why is there a cost to a company's capital?

Answer 1

Question 1

Risk arises because the returns are not certain or fixed or cannot be predicted in advance.Risk is defined in terms of variability in expected returns.It must be noted that all the investments are subject to risk, however the level of risk differs from security to security.

Return may be defined as total income generated by investment.

There is indeed positive correlation between risk and return. Greater the risk, more the returns. Some investments are riskier than others – there’s a greater chance you could lose some or all of your money. Stocks have a potentially higher return than bonds over the long term, but they are also riskier.

In order to avoid risk,some investors invest in a large number of securities.The basic idea here is DONOT PUT ALL YOUR EGGS IN ONE BASKET. This will lead to risk reduction.

By investing in larger portfolio we can reduce the overall risk in the portfolio. The risk in individual stocks will be higher as there will be high chances that all the money can be lost. By diversifying in a large portfolio, more returns can be earned with taking the same level of risk or same return can be earned with lower risks.

Hope it helps!