Joey Moss, a recent finance graduate, has just begun his job with the investment firm of Covili and Wyatt. Paul Covili, one of the firm's founders, has been talking to Joey about the firm's investment portfolio.

1. Go to finance.yahoo.com and download the ending monthly stock prices for FLIR Systems (FLIR) for the last 60 months. Be sure to use the adjusted closing price to account for any stock splits and dividend payments. Next, download the ending value of the S&P 500 index over the same period. For the historical risk-free rate, go to the St. Louis Federal Reserve website (www.stlouisfed.org) and find the three-month Treasury bill constant maturity rate. Download this file. What are the monthly returns, average monthly returns, and standard deviations for FLIR Systems stock, the three-month Treasury bill, and the S&P 500 for this period?

2. Beta is often estimated by linear regression. A model often used is called the market model, which is:

Rt - Rft = αi + βi [RMt - Rft] + εt

In this regression, Rt is the return on the stock and Rft is the risk-free rate for the same period. Rmt is the return on a stock market index such as the S&P 500 index, αi is the regression intercept, and βi is the slope (and the stock's estimated beta). εt represents the residuals for the regression. What do you think is the motivation for this particular regression? The intercept, αi, is often called Jensen's alpha. What does it measure? If an asset has a positive Jensen's alpha, where would it plot with respect to the SML? What is the financial interpretation of the residuals in the regression?

3. Use the market model to estimate the beta for FLIR Systems using the last 60 months of returns (the regression procedure in Excel is one easy way to do this). Plot the monthly returns on FLIR Systems against the index and also show the fitted line.

4. Compare your beta for FLIR Systems to the beta you find on finance.yahoo.com. How similar are they? Why might they be different?