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    Question

    The capital asset pricing model (CAPM) suggest that, the cost of equity is a trade-off between :

    A Systematic risk and return Correct Answer Incorrect Answer
    B Unsystematic risk and return Correct Answer Incorrect Answer
    C periodic risk & returns Correct Answer Incorrect Answer
    D Quarterly risk and ROE Correct Answer Incorrect Answer
    E Unsystematic risk and Systematic risk Correct Answer Incorrect Answer

    Solution

    Unsystematic risk is the risk related to a particular company and this type of risk which can be eliminated by the investor through diversification of its investment, However systematic risk is market risk which includes Interest rate change, Inflation, Policy change etc. and is un-diversifiable and is measured through the Beta of the stock in the CAPM model. An investor undertakes risk by investing in the stock of a company in expectation of higher return. Higher risk is associated with greater probability of higher return and lower risk with a greater probability of smaller return. This trade-off is assumed by CAPM model also in the cost of equity.

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