The risk free rate is 3% and there are two well-diversified portfolios, A and B with the following properties:

 

a) Find the price of risk for each factor under no arbitrage.

b) suppose there is a portfolio C with factor loading(B_c1, B_c2) =(0.5, 0.5) and expected return E(r_c)=7% is there an arbitrage opportunity? If yes, explain how to exploit the arbitrage ?

Transcribed Image Text:

Portfolio B₁ B₂ A 1 0.5 B 2 0.2 E[r] 7.5% 13.4% Portfolio B₁ B₂ A 1 0.5 B 2 0.2 E[r] 7.5% 13.4%

Answer rating: 100% (QA)

To find the price of risk for each factor under no arbitrage we can use the Capital Asset Pricing Mo... View the full answer