Suppose you are in charge of risk management at a large mutual fund. A portfolio manager is considering purchasing a large number of shares in a particular stock. The company whose stock she is considering has only been around for 5 years. You want to measure the probability of the firm’s stock falling by more than 10% in a given month.
a) Why is it difficult to measure the probability of the stock falling by more than 10% in a month?
b) Given your answer in part a), describe how you could still give some estimate of the probability of such a large drop in stock value.