Your friend Ali works as a consultant economist for Investment Inc and has come

Question

Your friend Ali works as a consultant economist for Investment Inc and has come up predictions for Stock %u201CApple%u201D and Stock %u201CBanana%u201D for four economic situations: depression, recession, normal and boom with probabilities of 5%, 15%, 50% and 30% respectively. Rate of returns for the %u201CApple%u201D and %u201CBanana%u201D stocks for the given four states of economies are %u2013 24%,    %u20138%, 12%, 30% and -20%, -6%, 10% and 24%.

a)      Calculate the expected rate of return for the stocks.                                         

b)      Calculate the standard deviation of stock returns for these two stocks.                       

c)      Complete the following table. Discuss which stock is more risky and which stock you prefer and why.                                                                                                             

Stock %u201CApple%u201D

Stock %u201CBanana%u201D

Expected   Rate of Return

Standard   Deviation

  

     

Stock %u201CApple%u201D

     

Stock %u201CBanana%u201D

     

Expected   Rate of Return

     

     

     

Standard   Deviation

     

     

   Your friend Ali works as a consultant economist for Investment Inc and has come up predictions for Stock %u201CApple%u201D and Stock %u201CBanana%u201D for four economic situations: depression, recession, normal and boom with probabilities of 5%, 15%, 50% and 30% respectively. Rate of returns for the %u201CApple%u201D and %u201CBanana%u201D stocks for the given four states of economies are %u2013 24%, %u20138%, 12%, 30% and -20%, -6%, 10% and 24%. Calculate the expected rate of return for the stocks. Calculate the standard deviation of stock returns for these two stocks. Complete the following table. Discuss which stock is more risky and which stock you prefer and why.

Explanation / Answer

a. expected rate of return for Apple= 8.49%

expected rate of return for banana= 10.3%

b. standard deviation of Apple= 6.19%

standard deviation of banana= 11.92%

c.

Stock %u201CApple%u201D

Stock %u201CBanana%u201D

Expected   Rate of Return

10.3%

Standard   Deviation

6.19%

11.92%

Since the S.D of stock Banana is higher that stock Apple, it is considered more risky. Therefore we will prefer the stock with less risk that is less S.D which is stock apple.

  

     

Stock %u201CApple%u201D

     

Stock %u201CBanana%u201D

     

Expected   Rate of Return

   8.49%

     

10.3%

     

Standard   Deviation

     

6.19%

     

11.92%

  

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