Part a State Pr(a) ra Pr(b) rb 1 0.2 10% 0.25 12% 2 0.6 15% 0.40 20% 3 0.2 20% 0.35 18% Given the probability distribution above, determine (Calculate) and compare the: Expected return (means) Variance Standard deviation Part b How important is risk to returns and what are the key elements that must be analyzed in this regard before an investment decision is made? Discuss in no more than 200 words.
Risk and return
Before understanding the concept of Risk and Return in Financial Management, understanding the two-concept Risk and return individually is necessary.
Capital Asset Pricing Model
Capital asset pricing model, also known as CAPM, shows the relationship between the expected return of the investment and the market at risk. This concept is basically used particularly in the case of stocks or shares. It is also used across finance for pricing assets that have higher risk identity and for evaluating the expected returns for the assets given the risk of those assets and also the cost of capital.
Part a
State |
Pr(a) |
ra |
Pr(b) |
rb |
1 |
0.2 |
10% |
0.25 |
12% |
2 |
0.6 |
15% |
0.40 |
20% |
3 |
0.2 |
20% |
0.35 |
18% |
Given the probability distribution above, determine (Calculate) and compare the:
- Expected return (means)
- Variance
- Standard deviation
Part b
How important is risk to returns and what are the key elements that must be analyzed in this regard before an investment decision is made? Discuss in no more than 200 words.
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