Advanced financial management revision question and answer

Advanced Financial Management Block Revision Mock Exams

The following data have been provided with respect to three shares traded on the Nairobi Stock Exchange (NSE


(i) What is the beta coefficient?
(ii) Interpret the beta coefficient of shares A, B and C.
(iii) Using the Capital Asset Pricing Model, compute the expected return

on shares A, B and C.
(iv) Can the beta coefficient be less than zero? Explain
ANSWER
(i) Beta Coefficient – Bi is a measure of the sensitivity of the returns on a security or a portfolio to changes in the market portfolio.

Bi is a measure of the systematic risk of a security market portfolio.

(ii) Interpretation:

Bi of A = 1.340

This implies that if the returns of the market portfolio change one unit those of share A change 1.340. It basically implies then shares A return are quite sensitive to the changes in the market portfolio.

Bi of B = 1.000

This implies that if the returns on the market portfolio change a unit those of share B also change one unit. These shares are of comparable risks to the market portfolio.

Bi of C = 0.750

Implies that if the returns of the market portfolio change a unit those of share C change 0.750. It implies that share C are less sensitive to changes in the market portfolio and they are less risky.
(iii) Using CAPM, the expected return:

Bj can be less than zero (negative) if the correlation of coefficient between a security and the market portfolio is negative.

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