Question

Now you get an interview opportunity for the job of financial analyst. The interviewer asks you which of the following statement is correct.

A) Equita betas measure the total risk of firms

B) The stocks with higher betas are superior to the stocks with lower betas, since the former ones have higher expected returns than the later ones.

C) the beta of the firms' equity being increased by its cash holdings in excess of its operating needs, if the capital market is perfect.

D) The beta of the firms equity being decreased by its cash holdings in excess of its operating needs, if the capital market is perfect.

Answer 1

There two type of risk in firm, systematic risk and unsysteamtic risk. Systematic also called diversifiable risk or market risk, which is measured by beta. unsystematic risk also called diversifiable risk is measred by standard deviation.

Beta is use to determine required rate of return on equity. A stock with higher beta means, stock has higher level of risk and so required rate of return is also. in perfect market required rate of return on stock is equal to expected rate of return. the beta of the firms' equity being increased by its cash holdings in excess of its operating needs, if the capital market is perfect. thisis because keeping cash idle incure cost ofr company.

Option (C) is correct answer.