Question

Stocks A and B have the following probability distributions of expected future returns:

Probability	A	B
0.2	(10%)	(21%)
0.2	3	0
0.3	13	23
0.2	24	30
0.1	28	38

a.Calculate the expected rate of return, rB, for Stock B (rA = 10.10%.) Do not round intermediate calculations. Round your answer to two decimal places.

b.Calculate the standard deviation of expected returns, σA, for Stock A (σB = 20.37%.) Do not round intermediate calculations. Round your answer to two decimal places.

c.Now calculate the coefficient of variation for Stock B. Round your answer to two decimal places.

Answer 1

a.expected rate of return, rB=Respective return*Respective probability

=(0.2*-21)+(0.2*0)+(0.3*23)+(0.2*30)+(0.1*38)

which is equal to

=12.5%

b.

Probability	Return	Probability*(Return-Expected Return)^2
0.2	-10	0.2*(-10-10.1)^2=80.802
0.2	3	0.2*(3-10.1)^2=10.082
0.3	13	0.3*(13-10.1)^2=2.523
0.2	24	0.2*(24-10.1)^2=38.642
0.1	28	0.1*(28-10.1)^2=32.041
		Total=164.09%

Hence standard deviation=[Total Probability*(Return-Expected Return)^2/Total probability]^(1/2)

=(164.09)^(1/2)

=12.81%(Approx)

c. coefficient of variation for Stock B=standard deviation/expected return

=(20.37/12.5)

=1.63(Approx).