Intermediate Financial Management 11th Pdf

Also, note that the dividend growth rate is not needed. Risk refers to the chance that some unfavorable event will occur, and a probability distribution is completely described by a listing of the likelihoods of unfavorable events. Consider the following information for three stocks, A, B, and C. Which of the following statements must be true about these securities? If the two portfolios have the same beta, their required returns will be the same, but Ann's portfolio will have less market risk than Tom's.

When diversifiable risk has been diversified away, the inherent risk that remains is market risk, which is constant for all stocks in the market. The required return for all stocks will fall by the same amount.

Recession, inflation, and high interest rates are economic events that are best characterized as being a. If an investor buys enough stocks, he or she can, through diversification, eliminate all of the diversifiable risk inherent in owning stocks. Add A, since its beta must be lower.

If Firm A's business is to obtain savings from individuals and then invest them in financial assets issued by other firms or individuals, Firm A is a financial intermediary. Portfolio P has more market risk than Stock A but less market risk than B. The required return will fall for all stocks, but it will fall less for stocks with higher betas. The diversifiable risk of your portfolio will likely decline, save as pdf-x but the expected market risk should not change. The required return on Portfolio P would remain unchanged.

California State University, Long Beach. Stock A has more market risk than Stock B but less stand-alone risk. The riskiness of the portfolio is greater than the riskiness of one or two of the stocks. Portfolio A has but one security, while Portfolio B has securities. The y-axis intercept would increase, and the slope would decline.

Assume that the risk- free rate is a constant. Neither A nor B, as neither has a return sufficient to compensate for risk. If the marginal investor becomes more risk averse, the required return on Stock A will increase by more than the required return on Stock B. Portfolio P's expected return is equal to the expected return on Stock B. The market is in equilibrium, with required returns equaling expected returns.

Intermediate financial management 11th pdf

Stock A's returns are less highly correlated with the returns on most other stocks than are B's returns. Which is the best measure of risk for a single asset held in isolation, and which is the best measure for an asset held in a diversified portfolio? Assume also that all stocks have positive betas. Company X has a lower coefficient of variation than Company Y.

If you found a stock with a zero historical beta and held it as the only stock in your portfolio, you would by definition have a riskless portfolio. None of the above statements is correct. If a company's beta were cut in half, then its required rate of return would also be halved. In historical data, we see that investments with the highest average annual returns also tend to have the highest standard deviations of annual returns. Portfolio diversification reduces the variability of returns on an individual stock.

Intermediate financial management 11th pdf

The required return for Stock A would fall, but the required return for Stock B would increase. What is the company's new required rate of return? Stock A must be a more desirable addition to a portfolio than B. Ann's portfolio will have less diversifiable risk and also less market risk than Tom's portfolio. The higher the correlation between the stocks in a portfolio, the lower the risk inherent in the portfolio.

Someone who is risk averse has a general dislike for risk and a preference for certainty. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

The coefficient of variation, calculated as the standard deviation of expected returns divided by the expected return, is a standardized measure of the risk per unit of expected return. Therefore, it would do more to reduce risk.

According to the Capital Asset Pricing Model, investors are primarily concerned with portfolio risk, not the risks of individual stocks held in isolation. Calculate the required rate of return for Everest Expeditions Inc. It is impossible to have a situation where the market risk of a single stock is less than that of a portfolio that includes the stock.


Thus, they would be equally risky from an investor's standpoint, assuming the investor's only asset is one or the other of the mutual funds. The riskiness of the portfolio is less than the riskiness of each of the stocks if they were held in isolation. The required return of all stocks will remain unchanged since there was no change in their betas. What is the firm's required rate of return? Portfolio P has equal amounts invested in each of the three stocks, A, B, and C.

It is this aspect of portfolios that allows investors to combine stocks and thus reduce the riskiness of their portfolios. Because of its diversification, Portfolio B will by definition be riskless. Stock B has a higher required rate of return than Stock A.

The required rate of return for each individual stock in the market will increase by an amount equal to the increase in the market risk d. Large-company stocks, small-company stocks, long-term corporate bonds, long-term government bonds, U. Stock Y's return has a higher standard deviation than Stock X. Company X has a higher beta than Company Y.

One could also construct a scatter diagram of returns on the stock versus those on the market, estimate the slope of the line of best fit, and use it as beta. Small-company stocks, large-company stocks, long-term corporate bonds, long-term government bonds, U. Stock Y's realized return during the coming year will be higher than Stock X's return. Stock Y must have a higher expected return and a higher standard deviation than Stock X. Company X has more diversifiable risk than Company Y.

Neither betas nor the risk-free rate change. First calculate the beta, then find the required return.

The beta of the portfolio is larger than the average of the betas of the individual stocks. Stock B would be a more desirable addition to a portfolio than A. Assume market equilibrium.

Therefore, if a portfolio contained all publicly traded stocks, it would be essentially riskless. In portfolio analysis, we often use ex post historical returns and standard deviations, despite the fact that we are really interested in ex ante future data. What's the standard deviation of the firm's returns? Remember me on this computer. The returns of Stock A and Stock B are independent of one another, i.

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Intermediate financial management 11th pdf

Consider the following average annual returns for Stocks A and B and the Market. The y-axis intercept would decline, and the slope would increase.