Question

Consider the following information:

		Rate of Return if State Occurs
State of Economy	Probability of State of Economy	Stock A	Stock B
Recession	0.20	0.04	–0.15
Normal	0.55	0.14	0.14
Boom	0.25	0.18	0.34

a. Calculate the expected return for the two stocks. (Do not round intermediate calculations. Enter your answers as a percent rounded to 2 decimal places.)

b. Calculate the standard deviation for the two stocks. (Do not round your intermediate calculations. Enter your answers as a percent rounded to 2 decimal places.)

Answer 1

STOCK A
State of Economy	Probability (P)	RETURN (Y)	(P * Y )	P * (Y -Average Return of Y)^2
Recession	20%	4	0.80	16.20
Normal	55%	14	7.70	0.55
Boom	25%	18	4.50	6.25
		TOTAL	13.00	23.00
Expected Return =		(P * Y)
		13.00%
VARIANCE =		P * (Y -Average Return of Y)^2
		23.0000
Standard Deviation =		Square root of (P * (Y -Average Return of Y)^2)
		Square root of 23
		4.80

STOCK B
State of Economy	Probability (P)	RETURN (Y)	(P * Y )	P * (Y -Average Return of Y)^2
Recession	20%	-15	-3.00	159.05
Normal	55%	14	7.70	0.35
Boom	25%	34	8.50	108.16
		TOTAL	13.20	267.56
Expected Return =		(P * Y)
		13.20%
VARIANCE =		P * (Y -Average Return of Y)^2
		267.5600
Standard Deviation =		Square root of (P * (Y -Average Return of Y)^2)
		Square root of 267.56
		16.36