. Evaluate the expected performance of two common stocks, Sky Inc. and Ground Inc, with the following information:

• The risk-free rate is 5%.
• The expected return on the market portfolio is 12%.
• The beta of Sky stock is 1.5.
• The beta of Ground stock is 0.5.

Looking at the average historical market stock price, assume that the forecasts of returns on the two stocks are 13% for Sky stock and 11% for Ground stock.

1. Calculate the required rate of return for Sky stock and Ground stock using CAPM.
2. Holding onto the required rate of return for each stock, calculate the alpha values for each of them. Indicate whether each stock is undervalued, fairly valued, or overvalued.
3. Construct the SML graph applicable for this case, and demonstrate your analysis whether each stock is undervalued, fairly valued, or overvalued graphically.
4. What is your recommendation for the investment strategy most applicable in this case (Hint: indicate active vs passive; indicate to buy, hold, or sell)? Justify your advice.