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Unformatted text preview: Chapter 7 Risk and Rates of Return Learning Objectives After reading this chapter, students should be able to: Explain the difference between standalone risk and risk in a portfolio context. Explain how risk aversion affects a stocks required rate of return. Discuss the difference between diversifiable risk and market risk, and explain how each type of risk affects welldiversified investors. Explain what the CAPM is and how it can be used to estimate a stocks required rate of return. Discuss how changes in the general stock and the bond markets could lead to changes in the required rate of return on a firms stock. Discuss how changes in a firms operations might lead to changes in the required rate of return on the firms stock. Chapter 8: Risk and Rates of Return Learning Objectives 177 Lecture Suggestions Risk analysis is an important topic, but it is difficult to teach at the introductory level. We just try to give students an intuitive overview of how risk can be defined and measured, and leave a technical treatment to advanced courses. Our primary goals are to be sure students understand (1) that investment risk is the uncertainty about returns on an asset, (2) the concept of portfolio risk, and (3) the effects of risk on required rates of return. What we cover, and the way we cover it, can be seen by scanning the slides and Integrated Case solution for Chapter 8, which appears at the end of this chapter solution. For other suggestions about the lecture, please see the Lecture Suggestions in Chapter 2, where we describe how we conduct our classes. DAYS ON CHAPTER: 3 OF 58 DAYS (50minute periods) 178 Lecture Suggestions Chapter 8: Risk and Rates of Return Answers to EndofChapter Questions 81 a. No, it is not riskless. The portfolio would be free of default risk and liquidity risk, but inflation could erode the portfolios purchasing power. If the actual inflation rate is greater than that expected, interest rates in general will rise to incorporate a larger inflation premium (IP) and as we saw in Chapter 6the value of the portfolio would decline. b. No, you would be subject to reinvestment rate risk. You might expect to roll over the Treasury bills at a constant (or even increasing) rate of interest, but if interest rates fall, your investment income will decrease....
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This note was uploaded on 03/30/2011 for the course WCOB 2043 taught by Professor Staff during the Spring '08 term at Arkansas.
 Spring '08
 STAFF

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