CHAPTER 4 EXERCISES

Question 1
Consider the following stock with price information
Date Stock Price
23/06 $20
24/06 $20.9
25/06 $22.1
26/06 $21.1
27/06 $21.8

Calculate the average rate of return, variance and standard deviation of stock return.
Question 2
The market price of Stock A and Bond B during the year 2019 are as follow:
Quarter Stock A (Price) Bond B (Price)
Q1 10 24
Q2 15.4 22.3
Q3 17.9 19.5
Q4 16.7 21.8

Calculate the covariance and correlation between Stock A and Bond B

Question 3
Calculate the expected return, variance, and standard deviation for the stocks in the
table below.
Stock Returns in Each Scenario
Product Demand Probability Stock 1 Stock 2 Stock 3
High 20% 30% 20% 15%
Medium 60% 12% 14% 10%
Low 20% 10% 5% 2%

Question 4
Calculate the expected return, variance, and standard deviation for each stock listed
below.
Stock Returns in Each State
State of the Economy Probability Stock A Stock B Stock C
Recession 15% 20% 10% 5%
Normal Growth 65% 18% 13% 10%
Boom 20% 40% 28% 20%
Question 5: Suppose your expectation regarding the stock market as follows:
State of the Economy Probability HPR
Boom 0.3 44%
Normal growth 0.4 14%
Recession 0.3 -16%
Compute the mean and standard deviation of the HPR on stocks.
Question 6: The stock of Business Adventures sells for $40 a share. Its likely dividend
payout and end-of-year price depend on the state of the economy by the end of the year
as follows:
State of the Economy Dividend Stock Price
Boom $2.00 $50
Normal economy $1.00 $43
Recession $0.50 $34
Calculate the expected holding-period return and standard deviation of the holding
period return. All three scenarios are equally likely.
Question 7: We have the following data:
Utility Formula Data
Investment Expected Return, E(R) Standard deviation, 𝝈
1 0.12 0.30
2 0.15 0.50
3 0.21 0.16
4 0.24 0.21
1
Knowing the Utility function: 𝑈 = 𝐸 (𝑅) − 𝐴𝜎 2 , in which A represents investor’s
2
aversion to risk.
a. Which investment would you select if you were risk averse with A=4?
b. Which investment would you select if you were risk neutral? (A=0).
Question 8: XYZ stock price and dividend history are as follows:
Year Beginning-of-Year Price Dividend Paid at Year-end
2015 $100 $4
2016 $110 $4
2017 $90 $4
2018 $95 $4
An investor buys three shares of XYZ at the beginning of 2015 buys another two shares
at the beginning of 2016, sells one share at the beginning of 2017, and sells all four
remaining shares at the beginning of 2018.
a. What are the arithmetic and geometric average time-weighted rates of return for the
investor?
b. Calculate the internal rate of return.