CFA Level I · CFA Level I Exam · Applications of Simple Linear Regression in Finance
An analyst estimates a simple linear regression of a fund's monthly return (Y) on a market index return (X). The estimated intercept is 0.20% and the slope is 0.90. If the index return next month is forecast at 2.0%, the fund's predicted return is closest to:
The predicted fund return is 2.00%. Substitute the forecast index return into the fitted line: intercept 0.20% plus slope 0.90 times 2.0% gives 0.20% plus 1.80%. Leaving out the intercept would give 1.80%, which is incorrect.
- A1.80%
- B2.00%Correct
- C2.20%
Explanation
Predicted Y = 0.20% + 0.90 × 2.0% = 0.20% + 1.80% = 2.00%. The 1.80% option omits the intercept, and 2.20% adds the intercept to 2.0 × 1.1 or otherwise misapplies the slope.
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