Chapter 6 - Business Finance

Risk - The possibility that an actual return will differ from projected return - How to measure - Variance, standard deviation, beta - How to reduce - Diversification - How to price - Security market line, CAPM Since Treasuries are essentially free of default risk, the rate of return on a treasury security is considered the "risk-free" rate of return Portfolio - Combining several securities in a portfolio can actually reduce overall risk Diversifying - Investing in more than one security to reduce risk Market Risk (systematic) (OVERALL) - Nondiversifiable - This type of risk can not be diversified away - Changes in Interest - Changes in cash flow Company-unique risk (unsystematic) - Diversifiable - This type of risk can be reduced through diversification - Labor goes on strike - Something happens to management etc. BETA (MARKET) - Measure of market risky, systematic risk, and etc. - Basically a measure of how an individual stock returns vary with market returns - Measure of sensitivity -
Capital Asset Pricing Model (CAPM) - The linear relationship between risk and rate of return Standard Deviation Higher the standard deviation, highers the risk
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