PORTFOLIO ANALYSISIndividual securities, as we have seen, have risk-return characteristics of their own. Portfolios, which are combinations of securities, may or may not take on the aggregate characteristics of their individual parts.Portfolio analysis considers the determination of future risk and return in holding various blends (combinations) of individual securities.

*

PORTFOLIO ANALYSIS (Cont)Security analysis recognizes the key importance of risk and return to the investor.Most methods recognize return as some dividend receipt and price appreciation over a period. But the return for individual securities is not always over the same common holding period, nor are the rates of return necessarily time-adjusted. An analyst may well estimate future earnings and a P/E to derive future price. He will surely estimate the dividend.*

PORTFOLIO ANALYSIS (Cont)Given an estimate of return, the analyst is likely to think of and express risk as the probable downside price expectation (either by itself or relative to upside appreciation possibilities).Each security ends up with some rough measure of likely return and potential downside risk for the future.*

Why portfolios?The simple fact that securities carry differing degrees of expected risk leads most investors to the notion of holding more than one security at time, in a attempt to spread risks by not putting all their eggs into one basket.Most investors hope that if they hold several assets, even if one goes bad, the others will provide some protection from an extreme loss.*

DiversificationEfforts to spread and minimize risk take the form of diversificationDiversification of ones holdings is intended to reduce risk in an economy in which every assets returns are subject to some degree of uncertainty.Holding one stock each from mining , utility, and manufacturing groups is superior to holding three mining stocks.The best diversification comes through holding large numbers of securities scattered across industries.*

Portfolio ConstructionInvestment decisions are all about making choices: Will income be spent or saved?If you choose to save, you face a second decision: What should be done with the savings?Each saver must decide where to invest this command over resources (goods and services). This is an important decision because these assets are the means by which investors transfer todays purchasing power to the future.

*

Portfolio Construction(cont)Savings are invested in various assets that make a portfolio which is a combination of assets designed to serve as a store of value.The investments constitute a portfolio. Poor management of these assets may destroy the portfolios value, and the investor will then not achieve his financial goals.The composition of a portfolio depends on investment goals.*

Possible Investment GoalsThere are many reasons for saving and accumulating assets:Start a business Funds to meet emergenciesFunds to finance education expensesFunds to make a specified purchase (e.g., a home; make a downpayment on a house)Funds for retirementOr accumulate for the sake of accumulating.For any of these reasons above, people construct portfolios rather than spend all their current income.*

Factors affect the construction of a portfolioSeveral factors affect the construction of a portfolio. These include but not limited toGoals of the investorRisks involved in a specific investmentTaxes that will be imposed on any gainKnowledge of investment alternatives.The motives for saving should dictate, or at least affect, the composition of the portfolio.*

Factors affect the construction of a portfolio -goals of the investorNot all assets are appropriate for all financial goals.E.g., savings that are held to meet emergencies, such as an extended illness or unemployment, should not be invested in assets whose return and safety of principal are uncertain. Instead, emphasis should be placed on safety of principal and assets that may be readily converted into cash, such as savings accounts or shares in money markets. The emphasis should not be on growth and high returns. However the funds should not sit idle but should be invested in safe assets that offer a moderate return.

*

Factors affect the construction of a portfolio- goals of the investor (Cont..Financing a retirement or a childs education, have a longer and more certain time horizon. The investor knows approximately when the funds will be needed and so can construct a portfolio with a long-term horizon. Bonds that mature when the funds will be needed or common stocks that offer the potential for growth would be more appropriate than savings accounts or certificates of deposit with a bank.The longer time period suggests the individual can acquire long-term assets that may offer a higher yield.*

Factors affect the construction of a portfolio- goals of the investor (Cont.In addition to the individuals goals, willingness to bear the risk plays an important role in constructing a portfolio. Some individuals are more able to bear risk. E.g., if the saver wants to build a retirement fund, he or she can choose from a variety of possible investments. Not all investments are equal with regard to risk and potential return.Investors who are more willing to accept risk may construct a portfolio with assets involving greater risk that may earn higher returns. *

Factors affect the construction of a portfolio- TaxesTaxes also affect the composition of an individuals portfolio. Income such as interest and realized capital gains are taxed. Such taxes and the desire to reduce them affect the composition of each investors portfolio.*

Factors affect the construction of a portfolio(Cont)Portfolio decisions are important. They set a general framework for asset allocation of the portfolio among various types of investments.Individuals, however, rarely construct a portfolio all at once but acquire assets one at a time. The decision revolves around which specific asset to purchase: which mutual fund? Which bond? Or which stock. Security analysis considers the merits of individual asset. Portfolio management determines the impact that the specific asset has on the portfolio.It is impossible to know an assets effect on the portfolio without first knowing its characteristics.*

Factors affect the construction of a portfolio(Cont)Stocks and bonds differ with regard to risk, potential return, and valuation.Even within a type of asset such as bonds there can be considerable variation. For example: a corporate bond is different from a government bond, and a convertible bond is different from a straight bond that lacks conversion feature. Investors need to understand these differences as well as the relative merits and risks associated with each of these assets. After understanding how individual assets are valued, then he/she may then construct a portfolio that will aid in the realization of his/her financial goals.

*

Diversification and Asset AllocationTo achieve diversification, the returns on your investments must not be highly correlated. Factors that negatively affect one security must have a positive impact on others. E.g: higher oil prices may be good for ExxonMobil but bad for Delta Airlines. By combining a variety of disparate assets, an investor achieves diversification and reduce risk.Reduction in asset specific riskAsset allocation refers to a acquiring a wide spectrum of assets. *

Diversification and Asset Allocation(Cont)Individuals use their finite (limited) resources to acquire various types of assets. E.g : Allocation of assets among alternatives such as stocks, bonds, and precious metals, and real estate.Even within a class as stocks, the portfolio is allocated to different sectors or geographical regions. E.g. an investor may own domestic stocks and stocks of companies in emerging nations. By allocating an investor 'assets over different types of assets, an investor contributes to the diversification of the portfolio.*

Diversification and Asset Allocation(Cont)Asset allocation and diversification are often used in different contexts. E.g: an investor may tilt (slope or moving into a sloping position) his/her allocation towards energy stocks and away from airlines if he/she anticipate high gas prices. The allocation between stocks, bonds, and other assets remains the same, but the allocation between two sectors is altered (changed). The words diversification and asset allocation are often used in this context. *

Diversification and Asset Allocation(Cont)Diversification is important because it reduces the investor s risk exposure.Asset allocation is important because it has a major impact on the return the investors portfolio earns.Whenever an investor makes an investment decision, he/she needs to consider its impact on the diversification of his portfolio and the allocation of his/her assets. Both are crucial components of portfolio management.*

Portfolio AssessmentPopular press places emphasis on return. Higher return requires accepting more risk. Assessment should consider both the return and the risk taken to achieve the return.*

Investment philosophyBelief that investment decisions are made in exceedingly competitive financial markets. Information is disseminated so rapidly that few investors are able to take advantage of new information.Investment philosophy: the philosophy and strategies of different investors and portfolio managers may be different. Some may have a shorter time horizon and may be less concerned with current taxes or the cost of buying and selling securities; others might think differently.*

Investment philosophy(Cont)Understanding yourself and specifying goals is important when developing an investment philosophy and making investment decisions.Available time to make investment decisions; develop a continuous contact with investment, follow daily news and TV programs talking about investment; have contact with people who work in the area and know professionals.

*

The InternetMajor source of information concerning investments: http://www.investopedia.com; http://www.TeachMeFinance.comhttp://www.bloomberg.com; http://money.cnn.com; http://www.fobes.comhttp://www.google.com; http://www.marketwatch.comhttp://www.morningstar.com; http://moneycentral.msn.com/investorhttp://www.investor.reuters.com; http://finance.yahoo.comhttp://www.cma.org.rwMuch information can be obtained through the internet free of charge, but some vendors do charge a fee for the material. However too much information may be available, or you might obtain contradictory information from different sites.*

Portfolio Theory

Portfolio Theory is built around the investor seeking to construct an efficient portfolio that offers the highest return for a given level of risk or the least amount of risk for a given level of return. Of all the possible efficient portfolios, the individual investor selects the portfolio that offers the highest level of satisfaction or utility.Harry Markowitz is credited with being the first individual to use the preceding material to develop a theory of portfolio construction employing returns and risk as measured by a portfolios standard deviation.

*

Portfolio Theory(Cont)

1. A measure of the dispersion of a set of data from its mean. The more spread apart the data, the higher the deviation. Standard deviation is calculatedas the square root of variance. 2. In finance, standard deviation is applied to the annual rate of return of an investment to measure the investment's volatility. Standard deviation is also known as historical volatility and is used by investors as a gauge for the amount of expected volatility. Standard deviation is a statistical measurement that sheds light on historical volatility. For example,a volatile stock will have a high standard deviation while thedeviationof a stable blue chip stock will be lower. A large dispersion tells us how much the return on the fund is deviating from the expected normal returns.

*

Portfolio Theory(Cont)

The contribution of Markowitz was a major advance in finance and led to the development of the Capital Asset Pricing Model (CAPM) and subsequently to the arbitrage pricing model, generally referred to as arbitrage pricing theory (APT). CAPM was developed by William F.Sharpe, John Lintner, and Jan Mossin. It reduces the explanation of stocks return to two variables:1. the market return 2. the volatility of the stock in response to two variables.*

Portfolio Theory(Cont)Arbitrage pricing theory(APT), initially developed by Stephen A.Ross, seeks to add additional variables to the explanation of security returns.Arbitrage is the act of buying a good or a security and simultaneously selling it in another market at a higher price (individuals who participate in these transactions are called arbitrageurs.E.g, if IBM stock is selling for $50 in New York and $60 in San Francisco, an opportunity for riskless profit exists. Arbitrageurs would buy the stock in New York and simultaneously sell it in San Francisco, thus earning the $10 profit without bearing any risk.Arbitage also implies that portfolios with the same risk generate the same returns.*

The Markowitz Model

The Markowitz model is premised on a risk-averse individual constructing a diversified portfolio that maximizes the individuals satisfaction (generally referred to as utility by economists) by maximizing portfolio returns for a given level of risk.This process is depicted in Figures 1 through 3, which illustrate the optimal combinations of risk and return available to investors, the desire of investors to maximize their utility, and the determination of the optimal portfolio that integrates utility maximization within the constraint of the available portfolios.*

Figure 1 The Efficient Frontier

*

Figure 1 The Efficient Frontier(Cont)Figure 1 illustrates the determination of the optimal portfolios available to investors. The vertical axis measures portfolio expected returns expressed as a percentage. The horizontal axis measures the risk associated with the portfolio, using the portfolios standard deviation (p).

*

Figure 1 The Efficient Frontier(Cont)The shaded area represents possible portfolios composed of various combinations of risky securitiesThis area is generally referred to as the attainable or feasible set of portfolios. Some of these portfolios are inefficient because they offer an inferior return given amount of risk.E.g., portfolio A is inefficient since portfolio B offers a higher return for the same amount of risk. *

Figure 1 The Efficient Frontier(Cont)Inefficient portfolio is a portfolio whose return is not maximized given the level of risk.All portfolios that offer the highest return for a given amount of risk are referred to as efficient.The line that connects all these portfolios (XY in Figure 1) defines efficient frontier and is referred to as the efficient set of portfolios.Any portfolio that offers the highest return for a given amount of risk must lie on the efficient frontier.Any portfolio that offers a lower return is inefficient and lies below the efficient frontier in the shaded area.*

Figure 1 The Efficient Frontier(Cont)Since inefficient portfolios will not be selected, the efficient frontier establishes the best set of portfolios available to investors.A portfolio such as C that lies above the efficient frontier offers a superior yield for the amount of risk. Investors would prefer that portfolio to portfolio B on the efficient frontier because C offers a higher return for the same level of risk.While the efficient frontier gives all the best attainable combinations of risk and return, it does not tell which of the possible combinations an investor will select.*

Figure 1 The Efficient Frontier(Cont)That selection depends on the individuals willingness to bear the riskThe combining of the efficient frontier and the willingness to bear the risk determines the investors optimal portfolioThis willingness to bear risk may be shown by the use of indifference curves, which are often used in economic theory to indicate levels of an individuals utility (i.e., consumer satisfaction) and the impact of trading one good for another.*

Figure 1 The Efficient Frontier(Cont)When applied to portfolio theory, the economic theory of consumer behavior develops the trade-off between risk and return (instead of trade-off between two goods).This trade-off between risk and return is also shown by indifference curves.A set of these indifference curves is illustrated in the following Figure 2. *

Figure 2 Indifference Map

*

Figure 2 Indifference Map(Cont)

Each indifference curve represents a level of satisfaction, with higher curves indicating higher levels of satisfaction.Movements along a given curve indicate the same level of satisfaction (the individual is indifferent). E.g., on indifference curve I1, the investor would be willing to accept a modest return, such as r1 and bear a modest amount of risk (p1). The same investor would also be willing to bear more risk for a higher return (e.g., r2 and (p2). *

Figure 2 Indifference Map(Cont)

The additional return is sufficient to induce bearing the additional risk, so the investor is indifferent between the two alternatives.All the points on the same indifference curve represent the same level of satisfactionThe indifference curves in Figure 2 are for risk-averse investor; hence, additional risk requires more return.Notice that these curves are concave from above; their slope increases as risk increases. This indicates that investors require ever-increasing amounts of additional return for equal increments of risk to maintain the same level of satisfaction.*

Figure 2 Indifference Map(Cont)

Investors would like to earn a higher return without having to bear additional risk.A higher return without additional risk increases total satisfaction.Higher levels of satisfaction are indicated by indifference curves I2 and I3, which lie above indifference curve I1.the investor is indifferent between any combination of risk and return on I2. All combinations of risk and return on indifference curve I2 are preferred to all combinations on indifference curve I1. All points on indifference curve I3 are preferred to all points on I2.*

Figure 2 Indifference Map(Cont)

The investor seeks to reach the highest level of satisfaction but is, of course, constrained by what is available. The best combinations of risk and return available are given by the efficient frontier. Superimposing the indifference curves on the efficient frontier defines the investors optimal portfolioThis is shown in Figure 3, which combines Figure 1& 2.The optimal combination of risk and return represented by point is the investors optimal combination of risk and return.*

Figure 3 Determination of the Optimal Portfolio

*

Figure 3 Determination of the Optimal Portfolio(Cont)If the investor selects any other portfolio with a different combination of risk and return on the efficient frontier (e.g., A), that portfolio would not be the individuals best choice. While portfolio A is an efficient combination of risk and return, it is not the optimal choice, as may be seen using the following logic.Portfolio B is equal to portfolio A (i.e., the investor is indifferent between A and B).B is not efficient and is inferior to portfolio , since offers a higher level of return for the same amount of risk.*

Figure 3 Determination of the Optimal Portfolio(Cont)Portfolio must be preferred to B, and because A and B are equal, must also be preferred to A.Only one portfolio offers the highest level of satisfaction and lies on the efficient frontier.That unique combination of risk and return is represented by portfolio , which occurs at the tangency of the efficient frontier and indifference curve I2 .*

Figure 3 Determination of the Optimal Portfolio(Cont)If an indifference curve cuts through the efficient frontier (e.g., I1), it is attainable but inferior, and it can always be shown that the investor can reach a higher level of satisfaction by altering the portfolio.If an indifference curve lies above the efficient frontier (e.g., I3), such a level of satisfaction is not obtainable.The investor would like to reach that level of satisfaction, but no combination of assets offers such a high expected return for that amount of risk*

Figure 3 Determination of the Optimal Portfolio(Cont)Different investors may have varying indifference curves.If the investor is very risk-averse, the curves tend to be steep, indicating a large amount of additional return is necessary to induce this individual to bear additional risk and maintain the same level of satisfaction.If the curves are relatively flat, the individual is less risk-averse. Only a modest amount of additional return is necessary to induce this individual to bear additional risk and still maintain the same level of satisfaction.However, both investors are still averse to bearing risk. The difference is the degree of risk aversion*

Portfolios Risk and ReturnThe future is uncertain. Investors do not know with certainty whether the economy will be growing rapidly or be in recession.Investors do not know what rate of return their investments will yield.Therefore, they base their decisions on their expectations concerning the future.The expected rate of return on a stock represents the mean of a probability distribution of possible future returns on the stock.*

Expected ReturnThe table below provides a probability distribution for the returns on stocks A and BState Probability Return On Return On Stock A Stock B 1 20% 5% 50% 2 30% 10% 30% 3 30% 15% 10% 4 20% 20% -10%The state represents the state of the economy one period in the future i.e. state 1 could represent a recession and state 2 a growth economy. The probability reflects how likely it is that the state will occur. The sum of the probabilities must equal 100%. The last two columns present the returns or outcomes for stocks A and B that will occur in each of the four states. *

Expected ReturnGiven a probability distribution of returns, the expected return can be calculated using the following equation: N E[R] = S (piRi) i=1Where:E[R] = the expected return on the stock N = the number of statespi = the probability of state iRi = the return on the stock in state i.*

Expected ReturnIn this example, the expected return for stock A would be calculated as follows:

E[R]A = .2(5%) + .3(10%) + .3(15%) + .2(20%) = 12.5%

Now you try calculating the expected return for stock B!

*

Expected ReturnDid you get 20%? If so, you are correct.

If not, here is how to get the correct answer:

E[R]B = .2(50%) + .3(30%) + .3(10%) + .2(-10%) = 20%

So we see that Stock B offers a higher expected return than Stock A.However, that is only part of the story; we haven't considered risk.*

Measures of RiskRisk reflects the chance that the actual return on an investment may be different than the expected return.One way to measure risk is to calculate the variance and standard deviation of the distribution of returns. We will once again use a probability distribution in our calculations.The distribution used earlier is provided again for ease of use.*

Measures of RiskProbability Distribution:

State Probability Return On Return On Stock A Stock B 1 20% 5% 50% 2 30% 10% 30% 3 30% 15% 10% 4 20% 20% -10%E[R]A = 12.5%E[R]B = 20%*

Measures of RiskGiven an asset's expected return, its variance can be calculated using the following equation: NVar(R) = s2 = S pi(Ri E[R])2 i=1Where:N = the number of states pi = the probability of state i Ri = the return on the stock in state iE[R] = the expected return on the stock

*

Measures of RiskThe standard deviation is calculated as the positive square root of the variance:

SD(R) = s = s2 = (s2)1/2 = (s2)0.5 *

Measures of RiskThe variance and standard deviation for stock A is calculated as follows:

s2A = 0.2(.05 -.125)2 + 0.3(.1 -.125)2 + 0.3(.15 -.125)2 + 0.2(.2 -.125)2 = .002625

sA = (.002625)0.5 = .0512 = 5.12%

Now you try the variance and standard deviation for stock B!If you got .042 and 20.49% you are correct.*

Measures of RiskIf you didnt get the correct answer, here is how to get it:

s2B = .2(.50 -.20)2 + .3(.30 -.20)2 + .3(.10 -.20)2 + .2(-.10 - .20)2 = .042

sB = (.042)0.5 = .2049 = 20.49%

Although Stock B offers a higher expected return than Stock A, it also is riskier since its variance and standard deviation are greater than Stock A's.This, however, is still only part of the picture because most investors choose to hold securities as part of a diversified portfolio.*

Portfolio Risk and ReturnMost investors do not hold stocks in isolation.Instead, they choose to hold a portfolio of several stocks.When this is the case, a portion of an individual stock's risk can be eliminated, i.e., diversified away.From our previous calculations, we know that:the expected return on Stock A is 12.5%the expected return on Stock B is 20%the variance on Stock A is .00263the variance on Stock B is .04200the standard deviation on Stock A is 5.12%the standard deviation on Stock B is 20.49%

*

Portfolio Risk and ReturnThe Expected Return on a Portfolio is computed as the weighted average of the expected returns on the stocks which comprise the portfolio.The weights reflect the proportion of the portfolio invested in the stocks.This can be expressed as follows: NE[Rp] = S wiE[Ri] i=1Where:E[Rp] = the expected return on the portfolioN = the number of stocks in the portfoliowi = the proportion of the portfolio invested in stock i E[Ri] = the expected return on stock i*

Portfolio Risk and ReturnFor a portfolio consisting of two assets, the above equation can be expressed as: E[Rp] = w1E[R1] + w2E[R2]

If we have an equally weighted portfolio of stock A and stock B (50% in each stock), then the expected return of the portfolio is: E[Rp] = .50(.125) + .50(.20) = 16.25%*

Portfolio Risk and ReturnUsing either the correlation coefficient or the covariance, the Variance on a Two-Asset Portfolio can be calculated as follows:

s2p = (wA)2s2A + (wB)2s2B + 2wAwBrA,B sAsB ORs2p = (wA)2s2A + (wB)2s2B + 2wAwB sA,B

The Standard Deviation of the Portfolio equals the positive square root of the the variance.*

Portfolio Risk and ReturnThe variance/standard deviation of a portfolio reflects not only the variance/standard deviation of the stocks that make up the portfolio but also how the returns on the stocks which comprise the portfolio vary together.Two measures of how the returns on a pair of stocks vary together are the covariance and the correlation coefficient.Covariance is a measure that combines the variance of a stocks returns with the tendency of those returns to move up or down at the same time other stocks move up or down.Since it is difficult to interpret the magnitude of the covariance terms, a related statistic, the correlation coefficient, is often used to measure the degree of co-movement between two variables. The correlation coefficient simply standardizes the covariance.

*

Portfolio Risk and ReturnThe Covariance between the returns on two stocks can be calculated as follows: NCov(RA,RB) = sA,B = S pi(RAi - E[RA])(RBi - E[RB]) i=1Where:sA,B = the covariance between the returns on stocks A and B N = the number of states pi = the probability of state i RAi = the return on stock A in state i E[RA] = the expected return on stock A RBi = the return on stock B in state iE[RB] = the expected return on stock B *

Portfolio Risk and ReturnThe Correlation Coefficient between the returns on two stocks can be calculated as follows: sA,B Cov(RA,RB)Corr(RA,RB) = rA,B = sAsB = SD(RA)SD(RB)

Where:rA,B=the correlation coefficient between the returns on stocks A and BsA,B=the covariance between the returns on stocks A and B, sA=the standard deviation on stock A, and sB=the standard deviation on stock B*

Portfolio Risk and ReturnThe covariance between stock A and stock B is as follows:

sA,B = .2(.05-.125)(.5-.2) + .3(.1-.125)(.3-.2) + .3(.15-.125)(.1-.2) +.2(.2-.125)(-.1-.2) = -.0105

The correlation coefficient between stock A and stock B is as follows: -.0105rA,B = (.0512)(.2049) = -1.00*

Portfolio Risk and ReturnUsing either the correlation coefficient or the covariance, the Variance on a Two-Asset Portfolio can be calculated as follows:

s2p = (wA)2s2A + (wB)2s2B + 2wAwBrA,B sAsB ORs2p = (wA)2s2A + (wB)2s2B + 2wAwB sA,B

The Standard Deviation of the Portfolio equals the positive square root of the the variance.*

Portfolio Risk and ReturnLets calculate the variance and standard deviation of a portfolio comprised of 75% stock A and 25% stock B:

s2p =(.75)2(.0512)2+(.25)2(.2049)2+2(.75)(.25)(-1)(.0512)(.2049)= .00016

sp = .00016 = .0128 = 1.28%

Notice that the portfolio formed by investing 75% in Stock A and 25% in Stock B has a lower variance and standard deviation than either Stocks A or B and the portfolio has a higher expected return than Stock A.This is the purpose of diversification; by forming portfolios, some of the risk in the individual stocks can be eliminated.*

Capital Asset Pricing Model (CAPM) If investors are mainly concerned with the risk of their portfolio rather than the risk of the individual securities in the portfolio, how should the risk of an individual stock be measured?In important tool is the CAPM.CAPM concludes that the relevant risk of an individual stock is its contribution to the risk of a well-diversified portfolio.CAPM specifiesa linear relationship between risk and required return. The equation used for CAPM is as follows: Ki = Krf + bi(Km - Krf)Where:Ki = the required return for the individual securityKrf = the risk-free rate of returnbi = the beta of the individual securityKm = the expected return on the market portfolio(Km - Krf) is called the market risk premiumThis equation can be used to find any of the variables listed above, given the rest of the variables are known.

*

CAPM ExampleFind the required return on a stock given that the risk-free rate is 8%, the expected return on the market portfolio is 12%, and the beta of the stock is 2.

Ki = Krf + bi(Km - Krf)Ki = 8% + 2(12% - 8%)Ki = 16% Note that you can then compare the required rate of return to the expected rate of return. You would only invest in stocks where the expected rate of return exceeded the required rate of return.*

Another CAPM ExampleFind the beta on a stock given that its expected return is 12%, the risk-free rate is 4%, and the expected return on the market portfolio is 10%.

12% = 4% + bi(10% - 4%)bi = 12% - 4% 10% - 4% bi = 1.33 Note that beta measures the stocks volatility (or risk) relative to the market. *