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Risk and Return Relationships

An important aspect of the decision-making process is the consideration of risks associated with the options in an opportunity set. Measuring the risk of available options can drastically alter the decisions made by an organization’s senior management team. For this week’s discussion, you will analyze the level of risk incurred in decision-making scenarios. In addition, you will evaluate popular stock exchanges and assess whether they are fair markets.

Specifically, address the following questions:

1- Are markets like the NYSE, NASDAQ, and CME fair markets? Why? Why is it important that such markets be fair markets? In your response, ensure that you assess the relationship between market prices and discount rates used in decision making.

2- Compare a real estate investment in Baghdad with a similar investment in Chicago. What are the appropriate risk-adjusted discount rates for each? How do the risks differ between them?

3- Would a fast-food restaurant chain, such as McDonald’s, incur more risk by offering a new sandwich or opening a new store? Why?

Resource

Berk, J., & DeMarzo, P. (2014). Corporate finance (3rd ed.). Boston, MA: Prentice Hall.

Chapter 10, “Capital Markets and the Pricing of Risk,” pp. 312-350

Chapter 10 examines the relationship between risk and return. In addition, risk measurement and mitigation methods are outlined.

Chapter 11, “Optimal Portfolio Choice and the Capital Asset Pricing Model,” pp. 351-399

Chapter 11 details modern portfolio theory, as well as applications of the capital asset pricing model.