31. You have computed the expected return on a security based on multiple econom

Question

31. You have computed the expected return on a security based on multiple economic states that have unequal probabilities of occurrence. Which one of the following statements is correct concerning the variance of this security?

a. The variance ignores the probabilities of occurrence.

b. The variance will be negative only when the overall expected rate of return on the security is negative.

c. The variance depends on both the rates of return and the probability of occurrence for each economic state.

d. The variance will remain constant if the probabilities of occurrence are changed.

e. The variance will most likely be negative if there is a high probability of an economic state occurring that will produce a highly negative return

Explanation / Answer

C) The variance depends on both rate of return and probabilty of occurance for each economic state.

Varainace is the square of return – expected return for the particular security.

Expected Return is the probability of the economic state*return for that period. Once expecteed return is subtracted even if the value is negative, variance is squared hence there will be no negative value for variance.

If the probabilities are changed the expected return will change thus changing the input for variance.

Variance= (Return- Expected Return)^2/n

Expected return= Probability1*Return1+Probability2*Return2

Related Questions

Navigate

• Browse (All)
• Browse 3
• Subjects

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.