Consider the following table, which gives a security analyst\'s expected return
ID: 2649786 • 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 7% or 14%? (Round your answers to 2 decimal places.)
If the T-bill rate is 8%, and the market return is equally likely to be 7% or 14%, 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
a.What are the betas of the two stocks? (Round your answers to 2 decimal places.)
Beta A = Difference in Rate of Return of Aggressive Stock/ Difference in Markket Return
Beta A = (29-2.7)/(14-7)
Beta A = 3.76
Beta D = Difference in Rate of Return of Deffensive Stock/ Difference in Markket Return
Beta D = (10-4.5)/(14-7)
Beta D = 0.79
Answer
Beta A 3.76
Beta D 0.79
b.
What is the expected rate of return on each stock if the market return is equally likely to be 7% or 14%? (Round your answers to 2 decimal places.)
Expected rate of return of A = 50% * 2.7 + 50%*29
Expected rate of return of A = 15.85%
Expected rate of return of D = 50% *4.5 + 50%*10
Expected rate of return of D = 7.25%
Answer
Rate of return on A 15.85%
Rate of return on D 7.25%
d.
If the T-bill rate is 8%, and the market return is equally likely to be 7% or 14%, 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.)
As per CAPM
Required rate of return of A = Rf + (Rm-Rf)*beta
Rf = 8%
Rm = 7*50% + 14*50% = 10.50%
Beta = 3.76
Required rate of return of A = 8 + (10.50-8)*3.76
Required rate of return of A = 17.40%
Alpha of Stock A = Expected rate of return of A - Required rate of return of A
Alpha of Stock A = 15.85 -17.40
Alpha of Stock A = - 1.55%
As per CAPM
Required rate of return of D = Rf + (Rm-Rf)*beta
Rf = 8%
Rm = 7*50% + 14*50% = 10.50%
Beta = 0.79
Required rate of return of D = 8 + (10.50-8)*0.79
Required rate of return of D = 9.975%
Alpha of Stock D =Expected rate of return of D - Required rate of return of D
Alpha of Stock D = 7.25 - 9.98
Alpha of Stock D = -2.73%
Answer
Alpha A -1.55%
Alpha D - 2.73%