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The rate of return on the common stock of Flowers by Flo is expected to be...

The rate of return on the common stock of Flowers by Flo is expected to be 14% in a boom economy, 8% in a normal economy, and only 2% in a recessionary economy. The probabilities of these economic states are 20% for a boom, 60% for a normal economy, and 20% for a recession. What is the variance of the returns on the common stock of Flowers by Flo?

a. .001044

b. 0.00144

c. .001863

d. .002001

e. .002471

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Answer #1

The correct answer : b. 0.00144

Note:

State of Economy Probability Expected Stock Return on Stock Expected Return ( Probability * Expected Stock Return)
Boom 0.20 0.14 0.0280
Normal 0.60 0.08 0.0480
Recessionary 0.20 0.02 0.0040
Expected Return   0.08
Expected Return   % 8.00
State of Economy Probability Probable Return Deviation ( Probable Return- Expected Return) Deviation Squared Product ( Deviation Squared* Probability)
Boom 0.20 0.14 0.060000 0.003600 0.000720
Normal 0.60 0.08 - .0000 - .0000 - .0000
Recessionary 0.20 0.02 -0.060000 0.003600 0.000720
Variance ( Sum of Product) 0.00144
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