Practice Question 30: The Risk Per Unit Of Return Is Measure
Practice Question 30the Risk Per Unit Of Return Is Measured By Therem
Practice Question 30the Risk Per Unit Of Return Is Measured By Therem
Practice Question 30the Risk Per Unit Of Return Is Measured By Therem
Practice Question 30 The risk per unit of return is measured by the [removed] Median. [removed] Standard deviation. [removed] Coefficient of variation. [removed] Variance.
Practice Question 38 The expected return on Bevo stock is 12.6 percent. If the expected return on the market is 10 percent and the beta for Bevo is 1.4, then what is the risk-free rate? [removed] 2.0% [removed] 2.5% [removed] 3.5% [removed] 3.0%
Multiple Choice Question 49 Julio purchased a stock one year ago for $27. The stock is now worth $32, and the total return to Julio for owning the stock was 37 percent. What is the dollar amount of dividends that he received for owning the stock during the year? [removed] $6 [removed] $7 [removed] $4 $5
Multiple Choice Question 87 The risk-free rate of return is currently 3 percent, whereas the market risk premium is 6 percent. If the beta of Lenz, Inc., stock is 1.8, then what is the expected return on Lenz? [removed] 8.40% [removed] 13.80% [removed] 19.20% [removed] 10.80%
Paper For Above instruction
The given set of practice questions revolves around fundamental financial concepts, including risk measurement, expected return computation, dividend calculation, and CAPM-based return estimates. These questions are essential for understanding investment analysis, portfolio management, and financial decision-making. This essay aims to comprehensively analyze each question, integrating theoretical frameworks, mathematical calculations, and real-world applications to deepen understanding of these core topics.
Understanding Risk per Unit of Return
The first set of questions refers to the measurement of risk relative to return. Specifically, the phrase “risk per unit of return” commonly aligns with the coefficient of variation. The coefficient of variation (CV) is a standardized measure of risk per unit of return and is calculated as the ratio of the standard deviation to the expected return. This metric allows for comparison across assets with different expected returns, providing insight into which investment bears more risk relative to its return. The CV is particularly useful in diversification decisions and portfolio optimization because it offers a normalized characterization of risk, unlike the standard deviation alone, which may not account for the scale of returns.
While the median, standard deviation, variance, and the coefficient of variation measure different aspects of risk, only the CV explicitly expresses risk per unit of return. Standard deviation and variance quantify absolute risk but do not normalize it concerning the return. The median is a measure of central tendency and less relevant in risk measurement directly, though it can inform about the data’s distribution.
Calculating the Risk-Free Rate with CAPM
The second question involves the Capital Asset Pricing Model (CAPM), which posits that the expected return of a security is a function of the risk-free rate, the market risk premium, and the asset’s beta. The CAPM formula is expressed as:
Expected Return = Risk-Free Rate + Beta × Market Risk Premium
Given the expected return of Bevo stock (12.6%), its beta (1.4), and the market return (10%), we can rearrange the formula to solve for the risk-free rate:
12.6% = Risk-Free Rate + 1.4 × 6%
12.6% = Risk-Free Rate + 8.4%
Risk-Free Rate = 12.6% - 8.4% = 4.2%
However, since the options provided do not include 4.2%, it is crucial to recognize a potential oversight or approximation in the multiple-choice options. Based on typical CAPM calculations, the risk-free rate would approximate to 4.2%, slightly higher than the options listed. Without the exact choice matching, the closest answer would be extrapolated accordingly, highlighting the importance of understanding the method rather than memorizing options. The relevant takeaway is understanding how the CAPM can be utilized to infer the risk-free rate when given expected returns, beta, and market premiums.
Dividend Calculation Based on Total Return
The third question involves finding the dividends Julio received based on a stock’s purchase price, current value, and total return. The total return comprises capital gains and dividends. The formula used is:
Total Return = (Ending Price - Beginning Price + Dividends) / Beginning Price
Rearranged to find dividends:
Dividends = [Total Return × Beginning Price] - (Ending Price - Beginning Price)
Plugging in values:
Dividends = (0.37 × 27) - (32 - 27) = 9.99 - 5 = 4.99, approximately $5
This calculation indicates Julio received about $5 in dividends during the year, consistent with the multiple-choice options. The understanding here is to parse total return, recognize the components, and perform straightforward algebra to find the dividends.
Expected Return Using CAPM
The final question involves calculating the expected return on Lenz Inc. stock using CAPM, with a risk-free rate of 3%, a market risk premium of 6%, and a beta of 1.8. The CAPM formula provides:
Expected Return = Risk-Free Rate + Beta × Market Risk Premium
Expected Return = 3% + 1.8 × 6% = 3% + 10.8% = 13.8%
This matches the multiple-choice answer of 13.80%, illustrating how the CAPM links beta, market premiums, and expected returns, crucial for portfolio managers assessing asset desirability based on systematic risk.
Conclusion
The aforementioned questions delineate vital principles in financial risk assessment and valuation. The risk per unit of return, captured by the coefficient of variation, offers a standardized risk measure. CAPM computations facilitate understanding the relationships among risk-free rates, beta, market premiums, and expected returns, forming the backbone of modern portfolio theory. Dividend calculations from total returns require dissecting the components influencing stock performance. These concepts collectively underpin investment decisions, risk management strategies, and asset valuation, emphasizing their centrality in finance disciplines.
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