Stock A\'s beta is 1.7 and Stock B\'s beta is 0.7. Which of the following statem

Question

Stock A's beta is 1.7 and Stock B's beta is 0.7. Which of the following statements must be true about these securities?

a. Stock B must be a more desirable addition to a portfolio than A.

b. Stock A must be a more desirable addition to a portfolio than B.

c. In equilibrium, the expected return on Stock A should be greater than that on B.

d. In equilibrium, the expected return on Stock B should be greater than that on A.

e. When held in isolation, Stock A risk is greater than that on B

ONLY ONE OPTION IS CORRECT. PLEASE, EXPLAIN WHY?

Explanation / Answer

e. When held in isolation, Stock A risk is greater than that on B.

Beta is a measure of a stock's volatility in relation to the market. By definition, the market has a beta of 1.0, and individual stocks are ranked according to how much they deviate from the market. A stock that swings more than the market over time has a beta above 1.0. If a stock moves less than the market, the stock's beta is less than 1.0. High-beta stocks are supposed to be riskier but provide a potential for higher returns; low-beta stocks pose less risk but also lower returns.

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