42 - Chapter 3 Exercise Solutions Principles of...

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Chapter 3, Exercise Solutions, Principles of Econometrics, 3e 42 EXERCISE 3.7 (a) We set up the hypotheses 0 :1 j H β = versus 1 j H β . The economic relevance of this test is to test whether the return on the firm’s stock is risky relative to the market portfolio. Each beta measures the volatility of the stock relative to the market portfolio and volatility is often used to measure risk. A beta value of one indicates that the stock’s volatility is the same as that of the market portfolio. The test statistic given H 0 is true, is () 118 1 ~ se j j b tt b = The rejection region is 1.980 t <− and 1.980 t > , where (0.975,118) 1.980 t = . The results for each company are given in the following table: Stock t -value Decision rule Disney 0.9593 1 0.287 0.1420 t == Since 1.98 1.98 t << , fail to reject 0 H GE 0.9830 1 0.162 0.1047 t
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