Question

9. Portfolio beta and weights Brandon is an analyst at a wealth management firm. One of his clients holds a $7,500 portfolio that consists of four stocks. The investment allocation in the portfolio along with the contribution of risk from each stock is given in the following table: Stock Atteric Inc. (AI) Arthur Trust Inc. (AT) Li Corp. (LC) Transfer Fuels Co. (TF) Investment Allocation 35% 20% 15% 30% Beta 0.750 1.500 1.100 0.500 Standard Deviation 53.00% 57.00% 60.00% 64.00% Brandon calculated the portfolio's beta as 0.878 and the portfolio's expected return as 8.8290%. Brandon thinks it will be a good idea to reallocate the funds in his client's portfolio. He recommends replacing Atteric Inc.'s shares with the same amount in additional shares of Transfer Fuels Co. The risk-free rate is 4%, and the market risk premium is 5.50%. According to Brandon's recommendation, assuming that the market is in equilibrium, how much will the portfolio's required return change? (Note: Do not round your intermediate calculations.) O 0.3775 percentage points 0.6002 percentage points 0.4840 percentage points O 0.5566 percentage points Analysts' estimates on expected returns from equity investments are based on several factors. These estimations also often include subjective and judgmental factors, because different analysts interpret data in different ways. Suppose, based on the earnings consensus of stock analysts, Brandon expects a return of 6.85% from the portfolio with the new weights. Does he think that the required return as compared to expected returns is undervalued, overvalued, or fairly valued? Undervalued Overvalued Fairly valued Suppose instead of replacing Atteric Inc.'s stock with Transfer Fuels Co.'s stock, Brandon considers replacing Atteric Inc.'s stock with the equal dollar allocation to shares of Company X's stock that has a higher beta than Atteric Inc. If everything else remains constant, the required return from the portfolio would Grade It Now Save & Continue Continue without saving

Answer 1

New Allocation on Transfer co = 30%+35% = 65%
Beta after new allocation =20%*1.50+15%*1.10+65%*0.5=0.79
New Required rate = Risk free rate + Beta* Market risk premium =4%+0.79* 5.5% = 8.345%

The change in required rate =8.829%- 8.345% =- 0.4840%

The project is Overvalued if Brandon expects 6.85%

If Higher beta is chosen the portfolio risk would increase.

The project is undervalued if Brandon expects 13.50%Since expected rate is more than required rate.

If Higher beta is chosen the portfolio risk would increase.and required return from the portfolio would increase