Question 13 Looking at a list of beta coefficients you spot a number of stocks a

Question

Question 13

Looking at a list of beta coefficients you spot a number of stocks as possible buys for your new stock portfolio. You have $80,000 to invest. You have decided to have just three stocks in your portfolio (this will make it easier to follow than a portfolio of more stocks). You have selected two already: The Gap with a beta of 1.31 and Disney with a beta of 1.25. You have invested $20,000 in each. For the final selection you are looking at Ford with a beta of 2.72, ebay with a beta of 1.75, IBM with a beta of 0.68 and the parent of Anheuser-Busch with a beta of 1.00. You would like the overall beta of your portfolio to be as close to "the market" or "average stock" as possible.

Make your third selection and calculate the beta of your three-stock portfolio (and yes, I need to see the formula!

Explanation / Answer

If we would like the overall beta of your portfolio to be as close to "the market" or "average stock" as possible, the weighted average beta of portfolio is 1.

Weighted average Beta = (WG*B)+(WD*B)(W*B)

1 = (0.25*1.31)+(0.25*1.25)+(0.50*B)

                                          1 = 0.3275+0.3125+0.50B

                1-0.3275+0.3125 =0.50B

                                          B = 0.36/0.50

                                         B = 0.72

Answer: IBM’s Beta is closest to 0.72.So we invest in IBM remaining amount.

Weighted average Beta = (WG*B)+(WD*B)(WI*B)

= (0.25*1.31)+(0.25*1.25)+(0.50*0.68)

= 0.3275+0.3125+ 0.34

= 0.98

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