CAPM, portfolio risk, and return Consider the following information for three st

Question

CAPM, portfolio risk, and return

Consider the following information for three stocks, Stocks X, Y, and Z. The returns on the three stocks are positively correlated, but they are not perfectly correlated. (That is, each of the correlation coefficients is between 0 and 1.)

Stock     Expected Return              Standard Deviation         Beta

X             9.60        % 16           %            0.9

Y              10.40 16                           1.1

Z              12.80 16                           1.7

Fund Q has one-third of its funds invested in each of the three stocks. The risk-free rate is 6%, and the market is in equilibrium. (That is, required returns equal expected returns.)

What is the market risk premium (rM - rRF)? Round your answer to two decimal places.

What is the beta of Fund Q? Round your answer to two decimal places.

What is the expected return of Fund Q? Round your answer to two decimal places.

Portfolio beta

A mutual fund manager has a $20 million portfolio with a beta of 1.15. The risk-free rate is 4.00%, and the market risk premium is 5.0%. The manager expects to receive an additional $5 million, which she plans to invest in a number of stocks. After investing the additional funds, she wants the fund's required return to be 16%. What should be the average beta of the new stocks added to the portfolio? Round your answer to two decimal places.

Explanation / Answer

1)

a. Using Stock X (or any stock):

9.6% = rRF + (rM

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