This article covers calculations, hypothesis testing and interpretation in the field of Business & Finance. It includes Jaqrque-Berra test, hypothesis testing, CAPM model, beta testing and residual plot analysis.
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STATISTICS OF BUSINESS & FINANCE STUDENT NAME/ID [Pick the date]
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PART A: CALCULATIONS (1)Returns for each of the stocks and index is determined with the help of excel and are given below. 1
Jaqrque- Berra test in relation to the normal distribution of returns of the stocks is performed below. Null and alternative hypothesis Jaqrque- Berra test statistic The requisite formula for determining the Jaqrque- Berra test stat is highlighted below. It can be seen based on the above table that Jarque- Berra (JB) test statistic in case of General Dynamics (GD) is more than critical value and thus, sufficient evidence is present to reject the null hypothesis. As a result alternative hypothesis would be accepted and hence, it can be said that distribution of GD returns does not follow normal distribution. Further, JB test statistic in case of Boeing (BA) is lower than critical value and thus, sufficient evidence is not present to reject the null hypothesis and to accept the alternative hypothesis. Hence, it can be said that distribution of GD returns follows normal distribution. (2)Hypothesis Testing Claim: The average return on GD stock is not same as 2.8%. Null and alternative hypothesis NullhypothesisH0:μGD=0.028 2
AlternativehypothesisH1:μGD≠0.028 It is apparent that population standard deviation of GD stock is unknown and hence, t-stat would be considered as suitable test statistics to check the validity of the claim. General Dynamics (GD Sample standard deviation4.45% Sample size60 Sample average returns1.56% Thevalueoftstat=1.56−2.8 4.45 √60 =−2.158 Degree of freedom = n-1 =60-1 =59 The two tailed p value for (t =-2.158) and (dof =59) comes out to be 0.035009. Assuming a significance level = 5% or 0.05 It is apparent that p value is lower than significance level and hence, sufficient evidence is present to reject the null hypothesis and to accept the alternative hypothesis. Therefore, it can be concluded that claim is correct thataverage return on GD stock is different from 2.8%. (3)Hypothesis testing Null and alternative hypothesis NullhypothesisH0:σ2 Boeing=σ2 GD AlternativehypothesisH1:σ2 Boeing≠σ2 GD F test two sample for variance 3
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Significance level = 5% or 0.05 The F stat is 1.7566 and the corresponding p value for two tailed would be 2*0.0162 =0.0323. It can be seen that p value is lower than significance level and hence, null hypothesis would be rejected and thus, alternative hypothesis would be accepted. Therefore, the conclusion can be drawn that risk associated with Boeing Company (BA) and General Dynamics (GD) represents statistically significant difference. (4)Hypothesis testing Null and alternative hypothesis NullhypothesisH0:μBoeing=μGD AlternativehypothesisH1:μBoeing≠μGD Two sample t- test assuming equal variances 4
Assuming significance level = 5% or 0.05 The t stat is -0.1226 and the corresponding p value for two tailed is 0.9026. It can be seen that p value is higher than significance level and hence, null hypothesis would not be rejected and thus, alternative hypothesis would not be accepted. Therefore, the conclusion can be drawn that return associated with Boeing Company (BA) and General Dynamics (GD) does not represents statistically significant difference. The preferred stock is General Dynamics (GD). (5) The superior stock between the two choices is General Dynamics considering the fact that it has higher average returns and also has lower standard deviation or risk in comparison with Boeing stock. Using the applicable treasury rates, the excess rates have been indicated. Further, CAPM model has been use using the excess stock returns and the excess market returns. The relevant output is indicated below. 5
The linear regression equation is estimated below. Excess stock returns = 0.35 + 0.73* Market Excess Returns (c) The value of R2is 0.2379. (d) The 95% slope coefficient interval is 0.38 to 1.07. (6) The hypothesis test needs to be performed using confidence interval approach. Null Hypothesis: Beta of the stock can be assumed to be 1 Alternate Hypothesis: Beta of the stock is different from 1. The decision rule with regards to the given hypothesis test would be to reject the null hypothesis when the hypothesised value (i.e. 1) does not lie in the confidence interval. In the given case, the value 1, does lie in the confidence interval for beta. As a result, the null hypothesis would not be rejected and hence it can be assumed that the stock is neutral. (7) The residual plot of the regression model is indicated below. 6
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PART B: Interpretation (1) Typically risk and returns are interrelated since higher returns are expected on assets having higher risk. In the given case, the higher average monthly returns are for General Dynamics stock in comparison with Boeing stock. Further, the risk of the stock is measured by the standard deviation of the stock returns. The risk is higher for Boeing which tends to have a larger dispersion in the monthly return values in comparison to the General Dynamics. It is apparent from the above analysis that the superior stock is General Dynamics between the given stock since it offers higher returns at lower risk. (3) The risk associated with the two stocks is different as has been validated by the relevant hypothesis test. Also, taking into consideration the sample risk data, it is apparent that the sample risk would be higher for Boeing stock as compared to General Dynamics stock. (4) The average returns associated for the two stocks does not highlight any significant difference and hence these are not different. While the population returns for the two stocks are not different, the underlying risk is different. Thus, the stock with lower risk would be preferable which would be General Dynamics. (5) (b) The beta from the CAPM output has come out as 0.73. This implies that for a percentage change in the excess returns of the market, a 0.73% return would be observed in the excess stock returns. Both the changes would be in the same direction. (c) The R2value is 0.2379 which implies that 23.79% of the variation in excess returns on the GD stock can be explained on account of variation in the market. (d) The 95% confidence suggests that the beta of the GD stock would lie between 0.38 and 1.07 with a probability of 0.95. (6) The hypothesis test using the above confidence interval suggests that the stock can be assumed as neutral as the beta of the GD stock can be 1 since it is included in the confidence interval estimated above. 8
(7) From the residual plot, it is apparent that the various points are scattered in a random manner and do not have a particular pattern and thereby it can be estimated that the error terms are normal distributed. The normal probability plot also supports the same conclusion. 9