Question

The nonzero slope coefficient test is used for a renowned financial application referred to as the capital asset pricing model (CAPM).The model y = α + βx + ɛ, is essentially a simple linear regression model that uses α and β, in place of the usual β0 and β1, to represent the intercept and the slope coefficients, respectively. Which of the following is true about the slope coefficient β, called the stock's beta?

Select that apply!
Multiple select question.
A. When β equals 0, any change in the market return leads to an identical change in the given stock return.
B. A stock for which β > 1 is considered more "aggressive" or riskier than the market
C. Measures how sensitive the stock's return is to changes in the level of the overall market
D. When β equals 1, any change in the market return leads to an identical change in the given stock return.

Answer 1

The beta (β) in the Capital Asset Pricing Model (CAPM) measures a stock's sensitivity to market movements. Statements B, C, and D correctly define beta's implications for stock returns in relation to changes in the market.

Step-by-step explanation:

In the context of the Capital Asset Pricing Model (CAPM), the slope coefficient β (beta) has specific interpretations. Let's clarify each statement:

• B. When β equals 0, the stock's return does not change as a result of changes in the market return. This statement is incorrect since a beta of 0 implies no sensitivity to market movements.
• B. A stock for which β > 1 is considered more "aggressive" or riskier than the market. This statement is correct as a beta greater than 1 indicates higher volatility and thus, a higher risk compared to the market.
• C. Measures how sensitive the stock's return is to changes in the level of the overall market. This statement is correct as beta is a measure of the stock's volatility in relation to the market.
• D. When β equals 1, any change in the market return leads to an identical change in the given stock return. This statement is correct, as a beta of 1 implies that the stock moves with the market.

To summarize, the correct answers regarding the stock's beta in CAPM are options B, C, and D.