Question: Assume that security returns are generated by the single-index model, R = a + GR + e{ where Ri is the excess return for security

Assume that security returns are generated by the single-index model, R = a + GR + e{ where Ri is the excess return for security i and RM is the market's excess return. The risk-free rate is 3%. Suppose also that there are three securities A B and C, characterized by the following data. Security of 1.4 E(R) 14 16 (ez) 23 14 a OM 22%, calculate the variance of returns of securities A, B, and C (Do not round Intermediate calculations. Round your answers to the nearest whole number.) Variance 1414 Security A Security B Security C b. Now assume that there are an infinite number of assets with return characteristics identical to those of A, B, and C, respectively. If one forms a well-diversified portfolio of type A securities, what will be the mean and variance of the portfolio's excess returns? What about portfolios composed only of type B or C stocks? (Enter the variance answers as a percent squared and mean as a percentage. b. Now assume that there are an infinite number of assets with return characteristics identical to those of A, B, and C, respectively. If one forms a well-diversified portfolio of type A securities, what will be the mean and variance of the portfolio's excess returns? What about portfolios composed only of type B or C stocks? (Enter the variance answers as a percent squared and mean as a percentage. Do not round intermediate calculations. Round your answers to the nearest whole number.) 949 Security A Security B Security C 1239 1568 c. Is there an arbitrage opportunity in this market? Yes

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