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20 February, 14:39

Malone Imports stock should return 12 percent in a boom, 10 percent in a normal economy, and 2 percent in a recession. The probabilities of a boom, normal economy, and recession are 5 percent, 85 percent, and 10 percent, respectively. What is the variance of the returns on this stock? Group of answer choices

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  1. 20 February, 14:52
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    6.11%

    Explanation:

    For computing the variance, first we have to determine the expected return which is shown below:

    = (Expected return of the boom * weightage of boom) + (expected return of the normal economy * weightage of normal economy) + (expected return of the recession * weightage of recession)

    = (12% * 5%) + (10% * 85%) + (2% * 10%)

    = 0.6% + 8.5% + 0.2%

    = 9.30%

    Now the variance would equal to the

    = Weightage * (Return - Expected Return) ^2

    For boom:

    = 5% * (12% - 9.3%) ^2

    = 0.3645

    For normal economy:

    = 85% * (10% - 9.3%) ^2

    = 0.4165

    For recession:

    = 10% * (2% - 9.3%) ^2

    = 5.329

    So, the total variance would be

    = 0.3645 + 0.4165 + 5.329

    = 6.11%
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