CHAPTER 12

# CHAPTER 12 - CHAPTER 12 SOME LESSONS FROM CAPITAL MARKET...

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CHAPTER 12 SOME LESSONS FROM CAPITAL MARKET HISTORY Solutions to Questions and Problems NOTE: All end of chapter problems were solved using a spreadsheet. Many problems require multiple steps. Due to space and readability constraints, when these intermediate steps are included in this solutions manual, rounding may appear to have occurred. However, the final answer for each problem is found without rounding during any step in the problem. 1. The return of any asset is the increase in price, plus any dividends or cash flows, all divided by the initial price. The return of this stock is: R = [(\$102 – 91) + 2.40] / \$91 = .1473 or 14.73% 8. We will calculate the sum of the returns for each asset and the observed risk premium first. Doing so, we get: Year Large co. stock return T-bill return Risk premium 1970 3.94% 6.50% - 2.56% 1971 14.30 4.36 9.94 1972 18.99 4.23 14.76 1973 –14.69 7.29 –21.98 1974 –26.47 7.99 –34.46 1975 37.23 5.87 31.36 33.30 36.24 –2.94 a . The average return for large company stocks over this period was: Large company stocks average return = 33.30% / 6 = 5.55% And the average return for T-bills over this period was: T T-bills average return = 36.24% / 6 = 6.04% U b . Using the equation for variance, we find the variance for large company stocks over this period was:

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Variance = 1/5[(.0394 – .0555) 2 + (.1430 – .0555) 2 + (.1899 – .0555) 2 + (–.1469 – . 0555) 2 + (–.2647 – .0555) 2 + (.3723 – .0555) 2 ] Variance = 0.053967 And the standard deviation for large company stocks over this period was: Standard deviation = (0.053967) 1/2 = 0.2323 or 23.23% Using the equation for variance, we find the variance for T-bills over this period
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CHAPTER 12 - CHAPTER 12 SOME LESSONS FROM CAPITAL MARKET...

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