Company A’s stock has a beta of 1.25 and Company B’s stock beta is 0.5 Which of the following statements will be true ? (a) The addition of stock A will reduce more portfolio risk then B (b) Addition of stock B will reduce more portfolio risk then A © Required return for A is higher then B. (Correct answer is C , from CAPM higher beta will result in higher required rate of return) But any comment about how the addition of these two securities with the level of betas can reduce the total portfolio risk ?
C is the correct answer… To answer your question, we can’t determine the portfolio risk, given just the betas’ of the securities included into the portfolio; we need to know the correlation of the 2 securities w.r.t. each other to give you a complete snapshot of what’s exactly happening to the portfolio risk as a whole. - Dinesh S
C is the correct answer. It’s hard to say which stock is going to increase or decrease portfolio risk because that solely depends on the current portfolio composition which is not given.