Question: Suppose you observe the following situation: a. Calculate the expected return on each stock. b. Assuming the capital asset pricing model holds and Stock As

Suppose you observe the following situation:

RETURN IF STATE OCCURS STOCK B PROBABILITY OF STATE STATE OF ECONOMY STOCK A -.08 .12 .46 .20 .60 Bust -.07 .12 Normal B

a. Calculate the expected return on each stock.
b. Assuming the capital asset pricing model holds and Stock A€™s beta is greater than Stock B€™s beta by .43, what is the expected market risk premium?

RETURN IF STATE OCCURS STOCK B PROBABILITY OF STATE STATE OF ECONOMY STOCK A -.08 .12 .46 .20 .60 Bust -.07 .12 Normal Boom .32 .20

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