Question

Which of the following statements is correct? a. A security's beta measures its diversifiable (firm-specific) risk relative to that of other securities. b. A stock's beta is less relevant as a measure of risk to an investor with a well-diversified portfolio than to an investor who holds only one stock. c. A stock's beta can be calculated by comparing its returns to the market's returns over some time period because the beta coefficient measures a stock's volatility relative to market. d. If the returns of two firms are negatively correlated, one of them must have a negative beta. e. Combining stocks that are perfectly negatively correlated and that have the same beta coefficient into a portfolio is riskier than holding an individual stock, because the portfolio will not benefit from diversification.

Answer 1

Answer:

C. A stock's beta can be calculated by comparing its returns to the market's returns over some time period because the beta coefficient measures a stock's volatility relative to market.

Explanation:

A stock`s beta is a risk assessment metric that is used to measure the volatility of a security in relation to the market. The metric compares the risk of an investment with the average market risk of that investment.

Since stock`s beta measures market risk in relation to the security,  it can be calculated by comparing its returns to the market`s returns over some time period which gives beta coefficient as a result.

If beta coefficient is above 1, it means the volatility of the security is high. If it`s 1, it means the security risk equals the market risk. If it is below 1, it means the security risk is less than the market risk.

Other options are wrong.

Option A is wrong because security`beta measures security risk in relation to the market, not other securities. Option B is wrong because stock`s beta is more relevant to an investor with well-diversified portfolio to measure risks across market.

Option D is wrong because returns can be negatively correlated without any of  the firm having negative beta

Option E is wrong because holding an individual stock is always riskier than combining stocks in a portfolio.

So only option C is right as described above.