Calculation of Risk

Calculation of Risk and Return
or
Return to Risk and the investment decision
Risk :- risk is the difference between the actual
and expected return . it can be measured by
two ways:-
A. Standard derivation- unsystematic risk.
B. Beta - systematic risk
A. Unsystematic risk :-
the conditions with are not certain and
expected
calculation of Risk and Return
or
Return to Risk and the investment decision
Formula to find out risk by Standard Deviation.
Pi = (ri - Er) 2
Here
Er= expected return
ri=return
Pi= probability of risk
or
Return and Risk the investment decision
Simplest form to find out the risk is :-
1. Multiply ri (return) and Pi (probability) and get Er
(Expected return).
2
2. Than find out (ri -Er) , here Er= ∑Er
3. (ri - Er)2 X P
2
4. Find out the total of the ∑ (ri - Er) X P
5. Then find out the under root of the
σ = √∑ (ri – Er) 2 X P (Expected risk).
6. The value of σ is less, it show less risk and vice –
versa.
or
Q.1 :-
Company A Company B
ri Pi ri Pi
6 0.10 4 0.1
7 0.25 6 0.2
8 0.30 8 0.0
9 0.25 10 0.2
10 0.10 12 0.1
• Find out the expected risk and return of both the
companies
or
• Solution
Company A Company B
ri Pi r = (ri X Pi ) ri Pi r
6 0.10 06 4 0.1 0.4
7 0.25 1.75 6 0.2 1.2
8 0.30 2.4 8 0.4 3.2
9 0.25 2.25 10 0.2 2
10 0.10 1
∑Er = 8 12 0.1 1.2
∑Er = 8
Both companies are having same expected return as - 8
or
To find out risk, we2first find out
i. (ri-Er)2 then P(ri-Er)
2
ii. √P(ri – Er)
Company A 2
Company B 2
ri pi r P (ri -Er) ri pi r P(ri -Er)
6 0.10 8 0.4 0 0.1 8 1.6
7 0.25 8 0.25 6 0.2 8 0.8
8 0.30 8 0 8 0.4 8 0
9 0.25 8 0.25 10 0.2 8 0.8
10 0.10 8 0.4
∑Pi (ri- Er) 2 = 1.3 12 0.1 2 1.2
∑ Pi (ri- Er ) = 4.8
or
δA= √∑ P (ri – Er) δB= √∑ P (ri – Er)
2 2
δA= √ 1.3 δB= √ 4.8

δA= 1.14 δB= 2.19
• so in company A risk is than company B, so
company A is better .
or
Qus.2. Returns
Pi Security A Security B
0.5 4 0
0.4 2 3
0.1 0 3
Find out the expected risk and which is the best

for investment, of both the companies .
or
Security A Security B
• Ri Pi Er Ri Pi Er
• 4 0.5 2 0 0.5 0
• 2 0.4 0.8 3 0.4 1.2
• 0 0.1 0 3 0.1 0.3
∑Er = 28 ∑Er = 1.5
Expected return of security A=2.8 and

of security B=1.5
or
• Security A Security B
• Ri Pi Er P(ri-Er )2 Ri Pi Er P(ri-Er )2
• 4 0.5 2.8 0.72 0 0.5 1.5 1.125
• 2 0.4 2.8 0.256 3 0.4 1.5 0.9
• 0 0.1 2.8 0.784 3 0.1 0.5 0.225
• ∑ Pi (ri-Er)2= 1.75 ∑ Pi (ri-Er)2 = 2.25
• δA= √1.75 = 1.32 δB =√2.25 = 1.5
Security A is having risk of 1.32 and
security B is having risk of 1.5
so security A is better.
or
B. Measurement of risk by using beta:-
risk can be related to the firm (internal
factors) and also associated with the market
conation.
So, on the basis of this risk is divided
or categorized into two types.
1. Systematic risk
2. Unsystematic risk
or
1.Systematic risk :-
systematic risk is that risk which
carried due to the external factors of the
company the external factor can be:
a. Variables operation in the market
b. External factor can be economic, sociologically,
political, legal risk.
or
These risk cannot be control and know as
uncontrollable risk. It can be calculated by
using beta.
Beta is that tool which find out / shown the
relationship between the market return and
security return.
This is used to find out systematic risk because
this is only tool available which show effects
of external factors on security return and risk.
or
In this three condition arise:-
(i). β =1 :- if value of β will come 1 them, it shows that changes in market
return will make the some effect on the security return.
(ii). β <1 :- if the value of β will be less than one, it shows that increase /
decrease in market return will change in the security return but in lesser
return.
(iii). β >I :- it shows that change in market return will make greater change in
the security return.
These three condition are hawing the direct relationship.
(iv). Negative beta :- this will make adverse effect of market return on
security return.
it means make return is increasing than security return will deceased
Formula β= n (∑Xy – (∑X∑y)
n ∑X2 – (∑X)2
or
2. Unsystematic risk :-
the risk which is caused by the internal
factor of the company. It can be by management ,
operating effecting, financial risk etc. To calculate
this risk standard durations is used.
If market return is given, the Beta will be used and
where it (market return) will given, then we use
standard deviation to calculate the risk.

Calculation of Risk

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Calculation of Risk

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Calculation of Risk and Return

δA= √ 1.3 δB= √ 4.8

Find out the expected risk and which is the best

Expected return of security A=2.8 and

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