Question

Which of the following statements is true?

Select one:

A. Beta identifies the appropriate level of risk for which an investor should be compensated.

B. Unsystematic risk is not diversifiable, so there is no reward for taking on such risk.

C. Stocks with same betas will always earn different returns.

D. The market risk premium is calculated by multiplying beta by the difference between the expected return on the market and the risk-free rate of return.

Answer 1

The correct answer is Option A

Beta is a measure of the risk which helps to determine how much stock or securities will move in accordance to the market. If the beta is higher then the investor would expect higher return as they would be compensated for the additional risk they are taking similarly a low beta would move less than market thus the expected return would be less.

Unsystematic risk is the risk that is associated with the particular security or asset and this risk can be easily diversified. Stock with the same betas tend to have similar expected returns rather than different retutns.

The Market return is calculated by the difference between the Market return less the risk free return, the beta is not multiplied while calculating the market risk premium.