Assume that the single index model is valid

Finance Nov 13, 2020

Assume that the single index model is valid. Stock A has a beta of 0.5 and a standard deviation of returns of 50%. The standard deviation of returns on the market portfolio is 20%.

What proportion of the total risk is due to systematic risk?

Expert Solution

Computation of Proportion of the total risk due to systematic risk:

Total Risk = Variance of Stock = 50^2 = 2,500

Variance of Market = 20^2 = 400

Systematic Risk = Beta^2 * Variance of Market = 0.5^2 * 400 = 100

Proportion of the total risk due to systematic risk = 100/2,500 = 4%

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