Capital Asset Pricing Model

b. Unsystematic risk is a function of the industry, the individual company, and the type of investment interest.

c

True or False Questions

8.       True

9.       False

 

10.      False. The systematic risk is what cannot be diversi ficd away.

11.      False, The rates of return tend to move with a lower magnitude, but not in the opposite di­rection. Only securities with a negative beta tend to move in the opposite direction, and there are very few7 of those.

Fill-in-the-Blank Questions

12.      Systematic risk (beta)

13.      Beta (systematic risk)

14.      Beta (systematic risk)

15.      In the same; greater.

The equity risk premium for security XYZ, mium for the market as a whole:

yv is equal to beta times the equity risk pre-

x8% 12%

18%

The formula for computing the cost of equity based on CAPM is:

E(R,) = Rf + Bx (RPj

= 0.06 + (1.5 x 0.08")

= 0.06 + 0.12 = 0.18 or 18%

1.5

Directly, from CAPM: E(Rt) -Rf = Bx (RPJ

E(R!)-Rf     12%

B =

= 1.5

RP.