Question

On the basis of regression equation P = a + b × S + e, we can decompose the variability of the dollar value of the asset, VAR(P), into two separate components: VAR(P) = b2 x VAR(S) + VAR(e). The first term in the right-hand side of the equation, b2 x VAR(S) represents

A) the part of the variability of the dollar value of the asset that is related to random changes in the exchange rate, as well as the residual part of the dollar value variability that is independent of exchange rate movements.
B) the part of the variability of the dollar value of the asset that is related to random changes in the exchange rate
C) the residual part of the dollar value variability that is independent of exchange rate movements
D) none of the options

Answer 1

In the given regression equation reflecting the dollar asset value's variability, the term b² x VAR(S) represents the portion of the asset's value variability that is due to changes in the exchange rate. The correct answer is option B.

Step-by-step explanation:

In the context of the regression equation P = a + b × S + e, where P represents the dollar value of an asset, S represents the exchange rate, and e represents the error term, we can separate the variability of P, denoted as VAR(P), into two components. The equation VAR(P) = b² x VAR(S) + VAR(e) helps us decipher this variability. The first term, b² x VAR(S), represents the variability of the dollar value of the asset that is due to the variability in the exchange rate. The second term, VAR(e), represents the residual variability that is independent of the exchange rate fluctuations.

Therefore, the correct answer to the question is option B) the part of the variability of the dollar value of the asset that is related to random changes in the exchange rate.