Foundations of Finance:Practice Midterm ExaminationProf.Alex Shapiro16.Mrs. R is using a model of expected returns, where the expected return next year depends on thecurrent value of the variable TRM (which measures a yield spread, defined as the yield on a 30-yearT-bond minus the yield on a 1-year T-note).Given the value of TRM, the expected one-year returnon stockiisγi+δiTRM,where TRM is in percentage points.For (risky) stocksA,B, andC, Mrs. R finds thatγA= 1%,γB= 2%,γC= 3%,δA= 2,δB= 1,When T-bond’s annualyield is 6% and T-note’s annualyield is 5%, based on Mrs. R’s model, theexpected returns onAandBsatisfy:δC= 3.BAB

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17.Use the data in the previous question, and note that our risk averse Mrs. R (who uses the above modelfor conditional expectations) realizes that she has mean-variance preferences.She also has aninvestment horizon of one year and wants to construct a portfolio from either (i) 1-year T-notes andstockAonly, or (ii) 1-year T-notes and stockConly.CCCCto

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