Question

Problem 7

You estimated a regression model using annual returns of ExxonMobil (as a dependent variable) and of the market (as an independent variable). The R-squared of this regression is 0.9. We can conclude that:

A) ExxonMobil’s systematic risk is higher than ExxonMobil’s unsystematic risk

B) ExxonMobil’s unsystematic risk is higher than ExxonMobil’s systematic risk

C) ExxonMobil’s systematic risk and ExxonMobil’s unsystematic risk are about the same

D) This R-squared implies that ExxonMobil’s beta is larger than one

E) This R-squared implies that ExxonMobil’s beta is smaller than one

Answer 1

R- square represents the proportion of the movement of dependent variable which is explained by movement of independent variable. When stock returns is dependent and market return is independent variable. Value of R-square is Systematic risk and 1- r-square is unsystematic risk.

Value of R-square is between 0 - 1. Higher the value of R-square means the movement is relatively in line with the index.

R-squared of this regression is 0.9 of ExxonMobil (as a dependent variable) and of the market (as an independent variable) represents that ExxonMobil’s systematic risk is higher than ExxonMobil’s unsystematic risk.