Your financial advisor tells you that the best metric to evaluate an asset is its beta,...

Your financial advisor tells you that the best metric to evaluate an asset is its beta, since only systematic risk matters for expected returns. Do you agree with this advice?

Explain if this is true, false, or uncertain

Solutions

Expert Solution

Systematic risk is the non diversifiable risk and are inherent to the market. It is caused by the external factors of the company. Examples for this type of risks are economic recession, political instability, changes in the tax laws, interest rate changes etc. These are not within the control of the investors or companies. It is relevant for determining the expected return since these risks are uncontrollable. But unsystematic risks can be hedged through diversification. So it is not sol relevant in return estimation.

Since the systematic risks are inevitable for a security, it must be considered in estimating the returns. Beta is a measure of systematic risk. It measure the volatility of the securities in the market. If the value of beta is zero, the stock is unrelated to the market fluctuations. Beta of ''One'' indicates that the stock is volatile and it moves in the same direction as the market changes.

We can agree with this advice of financial advisor. It is TRUE.

jeff jeffy answered 1 year ago

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