CFA Practice Question

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CFA Practice Question

You have invested in a stock with an expected return of 14% and a standard deviation of 7%. Your target rate of return is 7%. What is the probability that you will not meet your objective, assuming stock returns are normally distributed?
A. 16%
B. 32%
C. 68%
Explanation: There is a 68% chance that the stock returns will be within one standard deviation of the mean (i.e., there is a 68% chance that the stock returns will be between 7% and 21%). Hence, the probability that stock returns will lie outside this range is 100% - 68% = 32%. Since the normal distribution is symmetrically distributed about the mean, the probability that the returns will be less than 7% equals 32/2 = 16%

You could also solve this problem using the z-score and the normal probability distribution table. You should, however, be aware of short-cuts like the one above.

User Contributed Comments 2

User Comment
Pooh using empirical rule: 68% within 1s, 95% within 2s, 99% within 3s
edwardike 68% is from 7% to 21%. 1-.68% = 32% but we only want the downside so divide by 2 to get the probability of only the downside.
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