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29 November, 15:34

You expect General Motors (GM) to have a beta of 1.5 over the next year, and the beta of Exxon Mobil (XOM) to be 1 over the next year. Also, you expect the volatility (i. e. the standard deviation of returns) of GM to be 40%, and that of XOM to be 60% over the next year. Which stock has more systematic risk? Which stock has more total risk?

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  1. 29 November, 17:28
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    a. General Motors (GM)

    b. Exxon Mobil's (XOM)

    Explanation:

    a. Which stock has more systematic risk?

    Systematic risk refers to risk that is inherent to the market as a whole. It is measured by beta.

    When;

    1. beta > 1, it implies an investment has more systematic risk than the market

    2. beta < 1, it implies the investment has less systematic risk than the market.

    3. beta = 1, it implies the investment and the market has the same systematic risk as the market.

    Based on the above, a beta of 1.5 implies that General Motors' (GM) stock has more systematic risk than Exxon Mobil's (XOM) which has a beta of 1.

    b. Which stock has more total risk?

    Total risk is the addition of systematic and unsystematic risks. Contrary to systematic risk that relates to the market as a whole, Unsystematic risk affects or relates to particular group of securities or an individual security.

    Standard deviation is the addition of both systematic and unsystematic risks, and therefore a measure of the total risk.

    Since 60% standard deviation of Exxon Mobil (XOM) is greater than 40% standard deviation of General Motors (GM), it therefore implies that Exxon Mobil's (XOM) stock has more total risk.
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