Question

Problem 1 2pts] According to the CAPM, what is the expected return of the stock with the standard deviation of the returns of 40% and the correlation between its returns and the market returns is -0.12 The market's expected return and standard deviation are 6% and 15%, respectively. The risk-free rate is 30 Problem 2 The risk-free rate is 1% and the market risk premium is 6%. Below table slows the ru characteristics of three stocks A, B, and C: Stock Forecasted return (FR) 3.80% 10.60% 6.40% 3pts) According to the CAPM, what would be the fair return for each stock? b. 3pts) Characterize each stock as underpriced, overpriced, or properly priced. Problem 3 The risk-free rate is 2%, the market risk premium is 5%, and the size factor and value factor return are 2% and 3%. Below table shows the return characteristics of two stocks A and B: Stock Forecasted return (FR) BKT Bus Bum 9.60% 0.9 0.8 -0.5 0.8 -0.2 0.4

Answer 1

Problem 1).

Standard deviaion of stock SD(s) = 40%

Corr(s,m) = -0.1

Return on market Rm = 6%

Standard deviation of market = 15%

Rf = 3%

We know tht Beta of a stock = Cov(s.m)/Var(m)

So, Beta(s) = -0.1*0.4*0.15/(0.15*0.15) = -0.2667

So, expected return of stock using CAPM model is

E(r) = rf + Beta*(Rm-Rf) = 3 - 0.2667*(6-3) = 2.2%

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