In the micro component of the Capital Asset Pricing Model, beta coefficients are

Question

In the micro component of the Capital Asset Pricing Model, beta coefficients are used to explain an individual security's return. Riskier securities with higher beta coefficients should have greater returns to justify bearing the additional risk. The security marker line gives the return on a specific asset associated with each level of risk as measured by the assets beta coefficients. The use of beta as the primary explanatory variable of security return has been criticized as too limiting. An alternative explanation of security return is pricing theory (APT), which is a multivariable model. In this model, such variables unexpected inflation or unexpected changes in industrial production may effect return in addition to the security's response to change in the market. QUESTIONS 1.What is the difference between nondiversifiable (systematic) risk and divesifiable risk? 2.What is a diversified portfolio? What type of risk is reduced through diversification? How many securities are necessary to achieve this reduction in risk? What characteristics must these securities possess? 3.what are the sources of return on an investment? What are the differences among the expected return, the required return, and the realized return?

Explanation / Answer

1. What is the difference between nondiversifiable (systematic) risk and divesifiable risk

Ans. The security marker line gives the return on a specific asset associated with each level of risk as measured by the assets beta coefficients. The use of beta as the primary explanatory variable of security return has been criticized as too limiting. An alternative explanation of security return is pricing theory (APT), which is a multivariable model. In this model, such variables unexpected inflation or unexpected changes in industrial production may effect return in addition to the security's response to change in the market.

2. What is a diversified portfolio? What type of risk is reduced through diversification? How many securities are necessary to achieve this reduction in risk? What characteristics must these securities possess?

Ans. n the micro component of the Capital Asset Pricing Model, beta coefficients are used to explain an individual security's return. Riskier securities with higher beta coefficients should have greater returns to justify bearing the additional risk. The security marker line gives the return on a specific asset associated with each level of risk as measured by the assets beta coefficients. The use of beta as the primary explanatory variable of security return has been criticized as too limiting. An alternative explanation of security return is pricing theory (APT), which is a multivariable model. In this model, such variables unexpected inflation or unexpected changes in industrial production may effect return in addition to the security's response to change in the market.

3. .what are the sources of return on an investment? What are the differences among the expected return, the required return, and the realized return?

Ans. The use of beta as the primary explanatory variable of security return has been criticized as too limiting. An alternative explanation of security return is pricing theory (APT), which is a multivariable model. In this model, such variables unexpected inflation or unexpected changes in industrial production may effect return in addition to the security's response to change in the market

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