Question

If the economy is normal, Matthews, Inc. stock is expected to return 14.3 percent. If the economy falls into a recession, the stock's return is projected at a negative 8.7 percent. The probability of a normal economy is 80 percent. What is the variance of the returns on this stock

Answer 1

Answer:

Variance  =0.008464

Explanation:

The probability that there will be recession = 100 – 80 = 20%

Therefore expected return =  Return × probability

                                            =(0.8 × 14.3) + (0.2 × -8.7)  

                                            = 9.7%

Total probability is calculated in the table (use the attached table)

Standard deviation (SD) = [Total probability (84.64%)  × (Return (8.7%) - Expected Return (14.3%))^2 / Total probability (84.64%) ]^(1/2)

                            =9.2%

Thus, variance  =   (SD)^2

            variance  =0.008464