Question

An investor wants to estimate the expected return on his investment in Home Depot stock. Here are the possible returns that could be earned and their probabilities of occurrence:

                                                Possible Return                                   Probability

                                                            12%                                               20%

                                                            6%                                                20%

                                                          -10%                                               20%

                                                           22%                                                20%

                                                             5%                                                20%

a) What is the expected return for Home Depot?

b) What is the variance and standard deviation?

c) What is the coefficient of variation?   

Answer 1

Expected return=Respective return*Respective probability

=(0.2*12)+(0.2*6)+(0.2*-10)+(0.2*22)+(0.2*5)=7%

probability	Return	probability*(Return-Expected Return)^2
0.2	12	0.2*(12-7)^2=5
0.2	6	0.2*(6-7)^2=0.2
0.2	-10	0.2*(-10-7)^2=57.8
0.2	22	0.2*(22-7)^2=45
0.2	5	0.2*(5-7)^2=0.8
		Total=108.8%

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

=10.43%(Approx).

Variance=Standard deviation^2

=108.8%

Coefficient of variation=Standard deviation/Expected Return

=(10.43/7)=1.49(Approx).