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Unformatted text preview: 61InvestmentBeta$35,000 0.840,0001.4 Total$75,000 ($35,000/$75,000)(0.8) + ($40,000/$75,000)(1.4) = 1.12.64 ∧r = (0.1)(50%) + (0.2)(5%) + (0.4)(16%) + (0.2)(25%) + (0.1)(60%) = 11.40%. σ2 = (50%  11.40%)2(0.1) + (5%  11.40%)2(0.2) + (16%  11.40%)2(0.4) + (25%  11.40%)2(0.2) + (60%  11.40%)2(0.1) σ2 = 712.44; σ= 26.69%. CV = 11.40%26.69% = 2.34 67 a. ri = rRF + (rM  rRF)bi = 9% + (14%  9%)1.3 = 15.5%. b. 1. rRF increases to 10%: rM increases by 1 percentage point, from 14% to 15%. ri = rRF + (rM  rRF)bi = 10% + (15%  10%)1.3 = 16.5%. 2. rRF decreases to 8%: rM decreases by 1%, from 14% to 13%. ri = rRF + (rM  rRF)bi = 8% + (13%  8%)1.3 = 14.5%. c. 1. rM increases to 16%: ri = rRF + (rM  rRF)bi = 9% + (16%  9%)1.3 = 18.1%. 2. rM decreases to 13%: ri = rRF + (rM  rRF)bi = 9% + (13%  9%)1.3 = 14.2%.77a.Using Excel, the regression equation estimates are: Beta = 0.56; Intercept = 0.037; R2 = 0.96.b.R(Avg) = (14.0+23.0+…+18.2)/7 = 10.6%The arithmetic average rate of return on the market portfolio, determined similarly, is 12.1%. For Stock X, the estimated standard deviation is 13.1 percent: σ = 13.1%c.r(RF) = 10.6 – 6.8 / 0.44 = 8.6%d.Data on the riskfree security (bRF = 0, rRF = 8.6%) and Security X (bX = 0.56, Xr = 10.6%) provide the two points through which the SML can be drawn. rM provides a third point. e.In theory, you would be indifferent between the two stocks. Since they have the same beta, their relevant risks are identical, and in equilibrium they should provide the same returns. The two stocks would be represented by a single point on the SML. Stock Y, with the higher standard deviation, has more diversifiable risk, but this risk will be eliminated in a welldiversified portfolio, so the market will compensate the investor only for bearing market or relevant risk. In practice, it is possible that Stock Y would have a slightly higher required return, but this premium for diversifiable risk would be small. 78a.The regression graph is shown above. Using a spreadsheet, we find b = 0.62. b. Because b = 0.62, Stock Y is about 62 percent as volatile as the market; thus, its relative risk is about 62 percent of that of an average firm. c. 1. Total risk would be greater because the second term of the firm's risk equation, , would be greater. )(2Yσ2eY2M2Y2Ybσ+σ=σ 2. CAPM assumes that companyspecific risk will be eliminated in a portfolio, so the risk premium under the CAPM would not be affected....
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 Spring '09
 FI515
 Standard Deviation, Interest, Net Present Value

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