Question

Assignment 08 - Risk and Rates of Return 6. Portfolio beta and weights Aa Aa Brandon is an analyst at a wealth management firm. One of his clients holds a $5,000 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: Beta Investment Allocation 35% 20% Standard Deviation 23.00% Stock Atteric Inc. (AI) Arthur Trust Inc. (AT) Li Corp. (LC) Baque Co. (BC) 0.750 1.600 27.00% 15% 1.100 0.400 30.00% 34.00% 30% Brandon calculated the portfolio's beta as 0.868 and the portfolio's expected return as 8.77%. 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 Baque 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? O 0.67 percentage points O 0.83 percentage points O 0.77 percentage points O 0.52 percentage points

Answer 1

New Allocation on Transfer co = 30%+35% = 65%
Beta after new allocation =20%*1.60+15%*1.10+65%*0.4 = 0.745
New Required rate = Risk free rate + Beta* Market risk premium =4%+0.745* 5.5% = 8.0975%

The change in required rate = 8.77%- 8.0975% =0.67% or 0.67 percentage points

The project is Overvalued if Brandon expects 6.60%

Required rate of the portfolio would  increase.