Suppose you are a portfolio manager using the capital asset pricing model for making recommendations to her clients. You have the information shown in the following table.

a. Calculate the fair expected return and alpha for each stock. (15 marks)
b. Identify and justify which stock would be more appropriate for an investor who wants to:
i. add this stock to a well-diversified equity portfolio. (10 marks)
ii. hold this stock as a single-stock portfolio. (10 marks)
c. Explain:
i. What is Beta? (10 marks)
ii. In practice we do not observe Beta but stock prices, market index, and risk-free rate, etc. How do we calculate Beta? (10 marks)
 

Transcribed Image Text:

Stock A Stock B Market index Risk-free rate Actual/realised return 10% 15% 12% 3% Standard deviation 30% 20% 25% Beta 0.9 1.25 1.0 Stock A Stock B Market index Risk-free rate Actual/realised return 10% 15% 12% 3% Standard deviation 30% 20% 25% Beta 0.9 1.25 1.0

Answer rating: 100% (QA)

1 a Calculate the fair expected return and alpha for each stock Fair expected return ERi Rf iRm Rf where ERi is the expected return of stock i Rf is t... View the full answer