Assume that the following two assets are priced according to the zero-beta security market line: asset 1
Question:
Assume that the following two assets are priced according to the zero-beta security market line: asset 1 has an expected return of 6% and beta 0.5; asset 2 has an expected return of 14% and beta 2.
(i) A third asset is mispriced by the market: it has a beta of 1.5 and an expected return of 8%. Explain how you can set up a portfolio to exploit the arbitrage opportunity. What is the expected return of such a portfolio? [33%]
(ii) A fourth asset is mispriced by the market: it has a beta of 1.2 and an expected return of 18%. Explain how you can set up a portfolio to exploit the arbitrage opportunity. What is the expected return of such a portfolio? [33%]
(iii) What should be the expected return for an asset with beta 0.8?
Corporate Finance A Focused Approach
ISBN: 978-1439078082
4th Edition
Authors: Michael C. Ehrhardt, Eugene F. Brigham