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Abnormal rates of return

Problem1:
Compute the abnormal rates of return for the following stocks during period t (ignore differential systematic risk):
Stock Rit Rmt
B 11.5% 4.0%
F 10.0 8.5
T 14.0 9.6
C 12.0 15.3
E 15.9 12.4
Problem 2:
Compute the abnormal rates of return for the five stocks in Problem 1 assuming the following systematic risk measures (betas):
Stock Beta
B 0.95
F 1.25
T 1.45
C 0.70
E -0.30
Problem 3:
Compare the abnormal rates of return in Problems 1&2 and discuss the reason for the difference in each case.

Solution Preview

1. The Rit is the stock return and Rmt is the market return. The stock return differs from the market return due to its systematic risk. If we ignore systematic risk, the stock return would be the same as the market return. Thus the difference between Rit and Rmt will give us the abnormal return
Abnormal returns
Stock B = 11.5%-4% = 7.5%
Stock F = 10%-8.5% = ...

Solution Summary

The solution explains how to calculate the abnormal rates of return

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