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Insider trading; transaction effects to beta of company

You are a financial analyst in the corporate office of a food processing company, and you own stock in that company. Recently, you worked on an assignment during which you found out the company was going to take on additional debt and start an airline. You are thinking about selling your stock prior to the announcement.

a. What do you think will happen to the beta for this company after the announcement?

b. What do you think will happen to the price of the stock given your answer to part a?

c. Ethically, what are the consequences if you decide to sell before the announcement and if you do not sell?

d. What would you do?

Please give complete detailed answers with definitions to the finance terms to the above questions in the scenerio.

Solution Preview

Part A
First, beta measures an asset's or stock's systematic risk based upon that asset's or stock's covariance with the market portfolio. Systematic risk, on the other hand, pertains to, first, the variability of returns that is due to macroeconomic factors that affect all risky assets; hence it can not be diversified away. Systematic risk is also referred to as market risk.

Second, the assumption of additional debt affects the company's beta. This is so because as the company incurs additional debt, its debt beta or the measure of the risk that the company will default on its debt increases. Moreover, because of the superiority of debt as regards to the ...

Solution Summary

The solution examines how insider trading effects the beta of a company.The consequences if you decide to sell before the announcement is determined.