Question

Beta is determined by the market and thus does not reflect Business risk. True or False?

Beta is determined by the market and thus does not reflect Business risk.

True or False?

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Answer #1

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The answer is True:

Reason:

Beta represents: "Systematic Risk/Non-diversifiable risk/Market risk":

1. Risk related to the economy.

2. Cannot be killed by diversification.

For Example:

1. Suppose a war is declared between two countries.

2. Government decisions / New political party coming into power.

3. Interest rate, Inflation fluctuation risk.

Beta Doesn't Represent:

Idiosyncratic risk/ unsystematic risk/ diversifiable risk/ Business risk/ residual risk:

1. Risk arising from firms internal factors.

2. Can be killed by diversification.

Ex:

1. Losses caused by Labour strike/ Trade union.

2. Losses caused by fire breakout.

3. Losses caused by huge R&D failure.

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