Risk premium of a stock, Finance Basics

(a) RBC has 100 loans outstanding, each for $1 million, which it expects to be repaid today.  Each loan has a 5% probability of default, in which case the bank is not repaid anything.  The chance of default is independent across all the loans.  BMO has only one loan of $100 million outstanding, which it also expects will be repaid today.  It also has a 5% probability of not being repaid.  Explain the difference between the types of risk each bank faces.  Which bank faces less risk?  Why?

(b) Explain why the risk premium of a stock does not depend on its diversifiable risk.

Posted Date: 2/22/2013 3:11:55 AM | Location : United States

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