Consider the following table, which gives a security analyst\'s expected return
ID: 2613535 • Letter: C
Question
Consider the following table, which gives a security analyst's expected return on two stocks for two particular market returns:
What are the betas of the two stocks? (Round your answers to 2 decimal places.)
What is the expected rate of return on each stock if the market return is equally likely to be 8% or 20%? (Round your answers to 2 decimal places.)
If the T-bill rate is 8%, and the market return is equally likely to be 8% or 20%, what are the alphas of the two stocks? (Negative values should be indicated by a minus sign. Do not round intermediate calculations. Round your answers to 2 decimal places.)
Consider the following table, which gives a security analyst's expected return on two stocks for two particular market returns:
Explanation / Answer
Consider the following table, which gives a security analyst's expected return on two stocks for two particular market returns:
Market Return Aggressive Stock Defensive Stock
8% 3.9% 5.7%
20 30 14
a.What are the betas of the two stocks? (Round your answers to 2 decimal places.)
Beta A = (30-3.9)/(20-8)
Beta A = 2.18
Beta D = (14-5.7)/(20-8)
Beta D = 0.69
b.What is the expected rate of return on each stock if the market return is equally likely to be 8% or 20%? (Round your answers to 2 decimal places.)
Rate of return on A = 50%*3.9% + 50%*30%
Rate of return on A = 16.95%
Rate of return on D = 50%*5.7% + 50%*14%
Rate of return on D = 9.85%
d.If the T-bill rate is 8%, and the market return is equally likely to be 8% or 20%, what are the alphas of the two stocks? (Negative values should be indicated by a minus sign. Do not round intermediate calculations. Round your answers to 2 decimal places.)
Expected Market Return = 50%*8 + 50%*20
Expected Market Return = 14%
As per CAPM
Expected Rate of return on A = Risk free asset + (Expected Market Return - Risk free asset)*beta
Expected Rate of return on A = 8% + (14%-8%)*2.175
Expected Rate of return on A = 21.05%
Expected Rate of return on D = Risk free asset + (Expected Market Return - Risk free asset)*beta
Expected Rate of return on D = 8% + (14%-8%)*0.69167
Expected Rate of return on D = 12.15%
Alpha A = Rate of return on A - Expected Rate of return on A
Alpha A = 16.95%-21.05%
Alpha A = 4.1%
Alpha D = Rate of return on D - Expected Rate of return on D
Alpha D = 9.85-12.15
Alpha D = -2.3%