HW 5 - BusM 410 #5 Name: Nguyen Thi-Tam Bui 23rd in class...

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BusM 410 HW #5 Name: Nguyen Thi-Tam Bui Due Feb 23rd in class Section:3 CAPM and Single Factor Models Background information for questions 1-3: There are several assumptions that are used to derive the CAPM. As discussed in your textbook the following assumptions are made (I’ve re-stated some of them as compared to the way they are written in your book): a. Investors cannot affect prices by their individual trades. b. All investors are dealing with the same expected holding period. c. All investors are working with the same set of publicly traded assets. d. Investors have unlimited access to risk-free borrowing and lending. e. Investors do not pay taxes or transaction costs. f. All investors are mean-variance optimizers. g. All investors analyze securities in the same way and share the same economic view of the world. This means that investors are working with the same expected returns, risk, and correlations in their calculations. Questions: 1. If the above assumptions are taken as being true, what are the implications for which assets investors will hold? How much of each asset would each investor hold in their portfolios? The investors will hold all the assets of the asset universe; we can take stocks for simplicity. The proportion of each asset equals the market value of that stock divided by the total market value of all stocks in the portfolios. 2. Assume for this question that assumption g was not included in the above set of assumptions. Would investors identify the same market portfolio? Why or why not? No, they wouldn’t. Because if investors have different expected return, risk, and correlation, they will form different efficient frontiers; thus, the market portfolio which is the tangency portfolio will be different with each efficient frontiers the investors form. 3. Assume for this question that assumption e was not included in the above set of assumptions. Would investors settle on the same market portfolio? Why or why not? No, they wouldn’t. Because with the taxes and transaction cost they have to pay, the market portfolios would be more or less costly than the original market portfolio. 4. Assume there are two sets of investors A and B. Set A has access to, and invests in, 5000 publically traded assets. Set B has access to Set A’s 5000 assets as well as 2 asset classes not publically available (e.g., private equity, or foreign hedge funds). Would the tangency portfolios for both sets of investors be the same? Why or why not? Which tangency portfolio would likely be more efficient? Why? No, they wouldn’t. Because Set B now has access to 2 more assets to set A so set B would invest in these asset; therefore, the efficient frontier of set B is different than set A and thus, their tangency portfolio is also different.
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The tangency portfolio of set B would likely be more efficient because set B invests in two more assets over set A so set B is more diversified and their efficient frontier would be better. 5.
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HW 5 - BusM 410 #5 Name: Nguyen Thi-Tam Bui 23rd in class...

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