Question 6: Risk and Return (22 marks] A. What important lessons did you learn from capital market history? Explain the term "Equity Premium Puzzle" in relation with one of the lessons. What are the possible reasons researchers think for this puzzle? 15 marks) B. MacroSoft Inc. is growing rapidly. Dividends are expected to grow at a 25%% rate for the next 3 years, with the growth rate falling off to a constant 6% afterwards. If the required return on stocks is 12%% and MacroSoft just paid a $1.80 dividend, what should be its current price? (5 marks) C. The following table gives some characteristics of two risky assets - stocks and bonds. Also shown are weights in the optimal risky portfolio P, which is assumed to be mean-variance efficient, i.e., it provides the highest expected return for its level of variance. Weigh in Market Expected Standard Covariance Covariance Asset Portfolio P Return Deviation With Stocks With Bonds Stocks 0.4 ? 0.25 0.0625 0.004 Bonds 0.6 ? 0.15 0.004 0.0225 If the expected return on the optimal risky portfolio P. B(r ] is equal to 0.10 or 10 percent, what are the expected returns on stocks and bonds? Assume the risk-free rate, I, is equal to 0.04 or 4 percent and show all calculations clearly. (7 marks] D. Write a short paragraph on the Separation Theorem in Markowitz Portfolio Theory that changed the investment industry after it was published. (DO NOT copy from slide, textbook or internet. Use your own words.) (4 marks)