Question: The table below contains information based on an analysts forecasts for three stocks. The risk free rate is 8% and the market return is 16%.

  1. The table below contains information based on an analysts forecasts for three stocks. The risk free rate is 8% and the market return is 16%.

Stock

Current stock price (Ksh)

Expected stock price after 1 year (Ksh)

Expected dividend after 1 year (Ksh)

Beta factor

P

25

27

1.00

1.00

Q

40

45

2.00

0.80

R

15

17

0.50

1.20

Required

  1. Compute the expected return on each stock [3 marks]
  2. Compute the required return on each stock [3 marks]
  3. Determine whether each stock is undervalued, overvalued or correctly valued [3 marks]
  4. Outline an appropriate trading strategy [3 marks]
  5. What are the limitations of the capital asset pricing model when used to make investment decisions [3 marks]

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