Homework 4 Total: 42 Please show all steps you take to get your answers. 1.You estimate the market model for stocks i and j, using monthly returns. Also=10% (the standard deviation of the market...

Homework 4
Total: 42
Please show all steps you take to get your answers.
1. You estimate the market model for stocks i and j, using monthly returns.
Also =10% (the standard deviation of the market excess return), =10%, =15%.
1. If we draw Security Characteristic Lines (SCL) of stock i and stock j, what are the intercept and slope of each SCL? (2)
    
Particular
    Stock i
    Stock j
    Intercept of SCL
    0.2%
    -0.8%
    Slope of SCL
    0.7
    1.8
1. What is the systematic risk of stock i and stock j respectively? (2)
Systematic Risk = β2 σm2
For Stock i, Systematic Risk = (0.7)2(0.10)2 = 0.0049
For Stock j, Systematic Risk = (1.8)2(0.10)2 = 0.0324
1. What is the firm specific risk (namely unsystematic risk) of stock i and stock j respectively? (6)
Firm Specific Risk = σe,i 2
For Stock i, Firm Specific Risk = (0.10)2 = 0.01
For Stock j, Firm Specific Risk = (0.15)2 = 0.0225
1. What is the total risk of stock i and stock j respectively? (6)
Total Risk = Systematic Risk + Unsystematic Risk
For Stock i, Total Risk = 0.0049 + 0.01 = 0.0149
For Stock j, Total Risk = 0.0324 + 0.0225 = 0.0549
1. What fraction of stock i’s total variance can be diversified? What fraction of stock j’s total variance can be diversified? (6)
Only the...