[Assignment 5] Show your work.

1. ( T or F ) The majority of investors in the market are risk-

neutral.

2. ( T or F ) Normally, investors require a higher return for

stocks than for T-Bills.

3. ( T or F ) Stocks always yield higher returns than bonds.

4. ( T or F ) Other things being the same, the higher the risk of

a stock, the lower the price of the stock.

5. ( T or F ) Currently Facebook, Inc. is one of the 30 DJIA

companies.

6. What is the discount rate for a stock whose beta is 1.5. Currently, the expected market return is 10%, and the risk-free rate is 3%.

7. You are considering a game (using a fair coin) in which you will be paid $500,000 if a head is flipped, but you will have to pay $500,000 if a tail comes up. If you are a risk averter, would you do this game?

8. Stock Y has a beta of 1.50 and an expected return of 15%. Stock Z has a beta of 0.70 and an expected return of 12.5%. If the risk-free rate is 5.5% and the market risk premium is 8%, are these stocks overvalued or undervalued according to the CAPM (or SML)?

(Use the following data to answer the next two questions.)

The return characteristics for assets A and B can be described as follows:

Economy Return on A Return on B Probability

Good 15% 13% 0.3

Normal 11% 10% 0.4

Bad 7% 9% 0.3

9. Compute the expected return on each asset.

10. Which is riskier?

[Assignment 5] Show your work. 1. ( T or F ) The majority of investors in the market are riskneutral. 2. ( T or F ) Normally, investors require a higher return for stocks than for T-Bills. 3. ( T or F ) Stocks always yield higher returns than bonds. 4. ( T or F ) Other things being the same, the higher the risk of a stock, the lower the price of the stock. 5. ( T or F ) Currently Facebook, Inc. is one of the 30 DJIA companies. 6. What is the discount rate for a stock whose beta is 1.5. Currently, the expected market return is 10%, and the risk-free rate is 3%. 7. You are considering a game (using a fair coin) in which you will be paid $500,000 if a head is flipped, but you will have to pay $500,000 if a tail comes up. If you are a risk averter, would you do this game? 8. Stock Y has a beta of 1.50 and an expected return of 15%. Stock Z has a beta of 0.70 and an expected return of 12.5%. If the riskfree rate is 5.5% and the market risk premium is 8%, are these stocks overvalued or undervalued according to the CAPM (or SML)? (Use the following data to answer the next two questions.) The return characteristics for assets A and B can be described as follows: Economy Good Normal Bad Return on A 15% 11% 7% Return on B 13% 10% 9% Probability 0.3 0.4 0.3 9. Compute the expected return on each asset. 10. Which is riskier