Question

# Hi! I need help with question c) and d)

Consider the following data on stocks A, B and C, and

portfolio S, market M and risk-free rate Rf.

R_{f} = 2%, E(R_{M}) = 12%, σ_{M }= 20%, σ_{A,M} = 0.038, σ_{B,M} = 0.004, σ_{C,M} = 0.12, σ_{S,M }= 0.05

a) Assume that the CAPM holds. Determine the expected return of stocks A, B and C, and portfolio S.

b) From Market prices you compute the implicit expected returns for stocks A, B and C and portfolio S: E(R_{A}) = 10%, E(R_{B}) = 3%, E(R_{C}) = 24% and E(R_{S}) = 10%.

If CAPM is the correct model which assets should you buy or sell?

Given the computed non-zero alphas, the market cannot be the tangent portfolio. Your co-worker claims that portfolio S can be the tangent portfolio. In order to test this claim you obtain the following data:

Rf = 2%, E(RS) = 10%, σS = 20%, σA,S = 0.04, σB,S = 0.005, σC,S = 0.11, σM = 0.05

c) Can you reject that portfolio S is the tangent portfolio?

d) You construct a portfolio by allocating 30% of your wealth in the risk-free security, 40% in portfolio S and 30% in the market portfolio. Determine the expected return and standard deviation of this portfolio. Is this portfolio an efficient portfolio? Justify your answer..

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