Within the framework of the CAPM: if a stock’s beta is higher than 1, then its...

Within the framework of the CAPM: if a stock’s beta is higher than 1, then its expected return and standard deviation are certainly higher than that of the market portfolio. (yes or no and give explanation to justify your answer)

Expert Solution

Dear Student,

Solution:

Equation of Capital Asset Pricing Model (CAPM)

ERi = Rf + βi(ERm−Rf)

> In CAPM equation beta signifies how stock moves as compared to market. It is the systematic risk of stock. Further, it is interpreted as the risk that the stock is carrying. Higher the beta, higher the risk and greater the required returns. Thus standard deviation is higher of stock (it represents risk of stock).

For example, if any stock has beta of 1.5, it means stock moves by 1.5 if the market moves by 1.

> Further the beta multiplied by market risk premium (ERm−Rf) and added to Rf to get expected returns. Higher the beta, higher will be premium and higher returns as a result.

Yes, if a stock’s beta is higher than 1, then its expected return and standard deviation are certainly higher than that of the market portfolio.

Hope you understand the solution.

jeff jeffy answered 1 year ago

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