Question

The rate of return on the common stock of Lancaster Woolens is expected to be 18 percent in a boom economy, 8 percent in a normal economy, and only 2 percent in a recessionary economy. The probabilities of these economic states are 12 percent for a boom and 10 percent for a recession. What is the variance of the returns on this common stock

Answer 1

Answer:

Variance of the return on this common stock is 0.15%

Explanation:

Note: See the attached excel file for the calculation of the variance of the returns on this common stock.

Note that the probability of a normal economy can be obtained as follows:

Probability of normal economy = 100% - Probability of a boom - Probability of a recession = 100% - 12% - 10% = 78%

These probabilities are used in the attached excel file.