If Stock A has a beta of 1.2 and Stock B has a beta of 0.6, which of the followi

Question

If Stock A has a beta of 1.2 and Stock B has a beta of 0.6, which of the following statements is TRUE?

1. Stock A has higher systematic risk than Stock B.

2. Stock A must have more unsystematic risk than Stock B.

3. If the expected return on the market is greater than the risk free rate of return, Stock A has a lower expected return than Stock B according to the CAPM.

4. A portfolio consisting of Stock A and Stock B (and no other assets) would have lower systematic risk than Stock B on its own.

Answer Choices:

I only

I and II

I and III

I and IV

I, III, and IV

Explanation / Answer

I only

Beta is a measure of systematic risk. Higher the beta higher the risk. Beta doesn't give information about unsystematic risk.

Using CAPM, higher beta means higher returns. Hence, Stock A has higher expected returns than Stock B.

Beta for portfolio = (1.2 + 0.6) / 2 = 0.9, which is higher than Stock B beta.

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