Suppose that we have identified three important systematic risk factors given by exports, inflation, and industrial production. In the beginning of the year, growth in these three factors is estimated at -1%, 2.5%, and 3.5% respectively. However, actual growth in these factors turns out to be 1%, -2%, and 2%. The factor betas are given by $\beta$_EX = 1.8, $\beta$_I = 0.7, and $\beta$_IP = 1.0. If the expected return on the stock is 6%, and no unexpected news concerning the stock surfaces, calculate the stock's total return. A) 2.95% B) 4.95% C) 6.55% D) 7.40% E) 8.85%

Question

Quizplus · Accepted Answer

The stock's total return can be calculated by adding the expected return to the sum of the products of each factor's beta and its unexpected growth. The unexpected growth for each factor is the difference between its actual growth and its estimated growth at the beginning of the year. - For exports, the unexpected growth is $1\% - (-1\%)$ = $2\%$.- For inflation, the unexpected growth is $(-2\%) - 2.5\%$ = $-4.5\%$.- For industrial production, the unexpected growth is $2\% - 3.5\%$ = $-1.5\%$.Multiplying each unexpected growth by its respective beta and summing them gives:- Exports: $1.8 \times 2\% = 3.6\%$- Inflation: $0.7 \times (-4.5\%) = -3.15\%$- Industrial Production: $1.0 \times (-1.5\%) = -1.5\%$Adding these products gives the total unexpected return: $3.6\% - 3.15\% - 1.5\% = -1.05\%$.Adding this to the expected return of $6\%$, we get $6\% - 1.05\% = 4.95\%$.

Suppose That We Have Identified Three Important Systematic Risk Factors β\betaβ

Suppose That We Have Identified Three Important Systematic Risk Factors $\beta$