Expected Returns Calculation

Risk and Return Relationship

Historical data shows a positive correlation between risk and return.

Diversification

Owning various stocks in a portfolio to mitigate firm-specific risk.

Market Risk

Risk associated with stock ownership beyond firm-specific risk.

CAPM

Capital Asset Pricing Model that uses Beta to measure market risk.

Expected Return

Forward-looking calculation based on return probabilities and their likelihoods.

Standard Deviation

Measure of stock risk based on historical returns' variability.

Risk Premium

Part of expected return comprising risk-free rate and return premium.

Market Risk Premium

Reward for taking general stock market risk.

Efficient Frontier

Portfolio combinations offering highest return for each risk level.

Financial Leverage

Borrowing money to invest, increasing portfolio risk.

Security Market Line

Relates required return to risk, considering market portfolio's risk premium.

Company Risk Premium

Risk premium calculation for a specific company like Netflix.

Stock Market Bubble

Inflated market leading to dramatic price collapse.

Portfolio Beta

Weighted average of individual stock betas in a portfolio.

Efficient Market

Securities market where prices reflect all available information on each security

Efficient Market Hypothesis (EMH)

Theory that security prices fully reflect all available information

Executive Stock Options

Special rights for corporate executives to buy company stock at a fixed price

Market Portfolio

Theoretical combination of securities placing a portfolio on the efficient frontier

Overconfidence

Tendency to overestimate knowledge and underestimate risks

Penny Stocks

Stocks of small companies priced below $1 per share

Behavioral Finance

Study of cognitive biases in financial decision-making

Restricted Stock

Shares issued to employees with limitations on sale

Capital Asset Pricing Model (CAPM)

Model specifying the relationship between required return and risk

Capital Market Line (CML)

Line on a graph of return and risk through the market portfolio

Beta (β)

Measure of sensitivity of a stock or portfolio to market risk

Asset Pricing

Process of specifying the relationship between required return and risk

Constant-Growth Model

Alternative to CAPM for computing shareholders' required return

Diversifiable Risk

Risk that can be reduced through diversification

Non-diversifiable Risk

Risk that cannot be eliminated through diversification

Modern Portfolio Theory

Concept of combining securities into a portfolio to minimize risk