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Quiz 3 - FINANCE 100 Corporate Finance Professor Roberts...

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FINANCE 100 Corporate Finance Professor Roberts Solutions to Sample Quiz #3 NAME: SECTION: LOCKER #: Question Maximum Student Score Q u e s t i o n 1 5 0 Question 2 30 Question 3 20 TOTAL 100 Instructions: ¾ You may bring one 8.5x11 inch sheet of paper to the exam with writing on both sides. ¾ Round all numbers to the 0.01 place. ¾ Show all work, but keep your answers brief. ¾ Please check that the exam contains 7 pages including cover. ¾ Good luck. 1

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Question 1: (50 points) You are a mutual fund manager in charge of the TwoStock growth fund. This fund, which consists of two stocks, has the following return characteristics, based on historical data. Expected Return Standard Deviation Stock 1 6% 25% Stock 2 12.4% 35% The fund is split equally between the two assets (i.e. 50% in each stock). The current market environment is as follows. The average return on one-year T-bills is 4% and the expected return on the S&P500 is 12% with a standard deviation of 20%. Stock 1 and stock 2 have estimated correlations of 0.2 and 0.6 with the S&P500, respectively. a) Estimate the beta of each asset. (10 points) () 25 . 0 20 . 0 25 . 0 2 . 0 2 1 1 1 = = = M M M σ ρ β 05 . 1 20 . 0 35 . 0 6 . 0 2 2 2 2 = = = M M M b) Using your results from part a), calculate the beta of the fund assuming the S&P500 is a reasonable proxy for the market portfolio. (10 points) Take a weighted average of the beta of each stock, where the weights are the portfolio weights. ( ) 65 . 0 05 . 1 5 . 0 25 . 0 5 . 0 = + = + = B B A A P w w 2
c) Find the portfolio offering the same expected return as the TwoStock Fund but with the least amount of risk (i.e. smallest standard deviation) on the Capital Market Line

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Quiz 3 - FINANCE 100 Corporate Finance Professor Roberts...

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