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Assume the risk-free rate is 1% (rf = 1%), the expected return on the market portfolio is 5% (E[rM] = 5%) and the standard deviation of the return on...
Assume the risk-free rate is 1% (rf = 1%), the expected return on the market portfolio is 5% (E[rM] = 5%) and the standard deviation of the return on the market portfolio is 15% (σM = 15%). (All numbers are annual.) Assume the CAPM holds
a. What are the portfolio weights (in the risk-free asset and the market portfolio) for efficient portfolios (portfolios on the efficient frontier/CML) with expected returns of
(i) 4%
(ii) 5%
(iii) 7%
b. What are the portfolio weights (in the risk-free asset and the market portfolio) for efficient portfolios (portfolios on the efficient frontier/CML) with standard deviations of
(i) 6%
(ii) 15%
(iii) 21%
c. For a moment (but just a moment) assume that the CAPM may not hold. A non-dividend paying stock has a current price of $50/share and an expected price in 1 year of
$53/share (based on your personal analysis of the company's prospects).
(i) If the stock has a beta of 1 (β = 1.0), what is its alpha (α)?
(ii) What is the alpha (α) if the beta is 2 (β = 2.0)?
