Intermediate Financial Management (with Thomson One)

94 • Part 1 Fundamental Concepts
Figure 3-9
_
_
r = 0.00033 + 1.0114 rM p
30
Calculating a Beta Coefficient for Fidelity’s Magellan Fund
2
R = 0.9892
20
10
20
10
0
10
20
Historic Realized
Returns _
on Magellan, r p (%)
Additional Insights into Risk and Return
10 20 30
Historic Realized _Returns
on the Market, rM (%)
The CAPM provides some additional insights into the relationship between risk
and return. In the following illustrations of these insights, we will use GE to represent
Stock J:
1. The predicted future returns on Stock J are assumed to bear a linear relationship
of the following form to those of the market:
Predicted future rate of return ˆr J a J b J ˆr M e J
| 3-11 |
Here we assume that the historical relationship between Stock J and the market
as a whole, as given by its characteristic line, will continue into the future.
For example, we might assume the predicted return for GE in a future period,
given the market’s return in the period, is
Predicated GE return ˆr GE 0.003 0.88 ˆr M e GE
| 3-11a |
2. In addition to general market movements, each firm also faces events that are
unique to it and thus are independent of the general economic climate. Such
events cause the returns on Firm J’s stock to move somewhat independently of
those for the market as a whole, and these random events are accounted for by