2. Your stockbroker has called has called you about Netflix, Inc. (NFLX). She te

Question

2. Your stockbroker has called has called you about Netflix, Inc. (NFLX). She tells you that Netflix is selling for $370.00 per share and that she expects the price in one year to be $395.00. The expected return on NFLX has a standard deviation of 20 percent. The market risk premium for the S & P 500 has averaged 6.0 percent. The beta for NFLX is 1.14. The ten-year Treasury bond rate is 3 percent. NFLX does not pay a cash dividend.

Required: a) Determine the probability that you would earn a positive return on an investment in NFLX.
b) Determine the probability that you would earn more than your required rate of return on an investment in NFLX.
c) Explain why you would or would not buy NFLX.

Explanation / Answer

Required return=risk free+beta*market risk premium=3%+1.14*6%=9.84%

Expected return=year end price/Price now-1=395/370-1=6.757%

a) Determine the probability that you would earn a positive return on an investment in NFLX.

=1-NORMDIST(0%,6.757%,20%,TRUE)

=0.63

b) Determine the probability that you would earn more than your required rate of return on an investment in NFLX.

=1-NORMDIST(9.84%,6.757%,20%,TRUE)

=0.44

c) Explain why you would or would not buy NFLX.

We would not invest because the probbaility of earning more than required return is only 0.44

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