Risk And Rate Of Return

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Risk

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The chance that some unfavorable event will occur.

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Stand-alone Risk

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The risk an investor would face if he or a he held only one asset.

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Probability Distribution

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A listing of outcomes or events with a probability assigned to each outcome.

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Expected Rate of Return ř

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The rate of return expected to be realized from an investment; the weighted average of the probability Distribution of possible results.

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Standard Deviation (sigma)

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A statistical measure of the variability of a set of observations.

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Coefficient of Variation (CV)

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The standardized measure of the risk per unit return; calculated as the standard deviation divided by the expected return.

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Risk Aversion

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Risk - averse investors dislike risk and require higher rates of return as an inducement to buy riskier securities.

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Risk Premium

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The difference between the expected Rate of return on a given risky asset and that on a less risky asset.

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Capital Asset Pricing Model (CAPM)

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A model based on the proposition that any stock's required rate of return is equal to the risk free rate of return plus a risk premium that reflects only the risk remaining after diversification.

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Expected Return on a Portfolio

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The weighted average of the expected returns on the assets held in the portfolio.

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Realized Rate of Return

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The return that was actually earned during some past period. The actual return usually turns out to be different from the expected return except for risk less assets.

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Correlation Coefficient

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A measure of the degree from relationship between two variables.

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Diversified Risk

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That part of a security ' risk associated with random events; it can be eliminated by proper diversification. The risk is also known as company specific, or unsystematic risk.

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Market Risk

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The risk that remains in a portfolio after diversification has eliminated all company specific risk. This risk is also known as non diversifiable or systematic or beta risk.

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Market Portfolio

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A portfolio consisting of all stocks.

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Relevant Risk

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The risk that remains once once a stock is in a diversified portfolio is its contribution to the portfolios market risk. It is measured by the extent to which the stock moves up or down the market.

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Beta Coefficient

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A metric that shows the extent to which a given stock's return move up and down with the stock market rate. Beta thus measures market risk.

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Average Stock Beta

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By definition bA=1 because an average risk stock is one that tends to move up and down in step with the general market.

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Market Risk Premium

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The additional return over the risk-free rate needed to compensate investors investors for assuming an average amount of risk.

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Security Market Line (SML) Equation

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An equation that shows the relationship shop between risk as measured by beta and the required rates of return on individual securities.