Homewrok 2 Solution

# Homewrok 2 Solution - Hence the portfolio's expected rate of return is the risk-free rate 4 c Using the SML the fair rate of return for a stock

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Homework 2 – FINA 469 Spring 2012 Solution Section I: Multiple Choices 1-5: ABADC 6-10: DBCBD 11-15: DCDDC 16-20: DBABC 21-25: BBBBC Section II: Numerical Problem Chapter 5: 12 (Page 140) a. E(r P ) = (0.3 × 7%) + (0.7 × 17%) = 14% per year σ P = 0.7 × 27% = 18.9% per year b. Investment T-Bills 30.0% Stock A 0.7 × 27% = 18.9% Stock B 0.7 × 33% = 23.1% Stock C 0.7 × 40% = 28.0% c. Your Reward-to-variability ratio = S = = 0.3704 Client's Reward-to-variability ratio = = 0.3704 d. The capital allocation line is: E(r) σ 7 27 14 17 P CAL ( slope=.3704) % % 18.9 client Chapter 6: 19 (Page 181), CFA 1 (Page 182) 19:

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The probability distribution is: Probability Rate of Return 0.7 100% 0.3 -50% Expected return = (0.7 × 100%) + 0.3 × (50%) = 55% Variance = [0.7 × (100  55) 2 ] + [0.3 × (50  55) 2 ] = 4725 Standard deviation == 68.74% CFA 1: E(r P ) = (0.5 x 15) + (0.4 x 10) + (0.10 x 6) = 12.1% Chapter 7: 21 (Page 222) a. Since the market portfolio, by definition, has a beta of 1.0, its expected rate of return is 12%. b. β = 0 means the stock has no systematic risk.
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Unformatted text preview: Hence, the portfolio's expected rate of return is the risk-free rate, 4%. c. Using the SML, the fair rate of return for a stock with β = –0.5 is: E(r) = 4% + (–0.5)(12% – 4%) = 0.0% The expected rate of return, using the expected price and dividend for next year: E(r) = (\$44/\$40) – 1 = 0.10 = 10% Because the expected return exceeds the fair return, the stock must be under-priced. Chapter 18: 5 (Page 604) a. E(r) σ β Portfolio A 11% 10% 0.8 Portfolio B 14% 31% 1.5 Market index 12% 20% 1.0 Risk-free asset 6% 0% 0.0 The alphas for the two portfolios are: α A = 11% – [6% + 0.8(12% – 6%)] = 0.2% α B = 14% – [6% + 1.5(12% – 6%)] = –1.0% Ideally, you would want to take a long position in Portfolio A and a short position in Portfolio B. b. If you hold only one of the two portfolios, then the Sharpe measure is the appropriate criterion: S A = S B = Therefore, using the Sharpe criterion, Portfolio A is preferred....
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## This note was uploaded on 03/20/2012 for the course FINA 469 taught by Professor Zhang during the Spring '08 term at South Carolina.

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Homewrok 2 Solution - Hence the portfolio's expected rate of return is the risk-free rate 4 c Using the SML the fair rate of return for a stock

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