Consider a three-factor APT model. The factors and associated risk premiums are
Factor Risk Premium
Change in GNP ........... 5%
Change in energy prices ....... -1
Change in long-term interest rates ... -2
Calculate expected rates of return on the following stocks. The risk-free interest rate is 7%.
a. A stock whose return is uncorrelated with all three factors.
b. A stock with average exposure to each factor (i.e., with b = 1 for each).
c. A pure-play energy stock with high exposure to the energy factor (b = 2) but zero exposure to the other two factors.
d. An aluminum company stock with average sensitivity to changes in interest rates and GNP, but negative exposure of b = -1.5 to the energy factor. (The aluminum company is energy-intensive and suffers when energy prices rise.)