Question

PORTFOLIO REQUIRED RETURN

Suppose you are the money manager of a $5.3 million investment fund. The fund consists of four stocks with the following investments and betas:

Stock	Investment	Beta
A	$   340,000	1.50
B	760,000	(0.50)
C	1,300,000	1.25
D	2,900,000	0.75

If the market's required rate of return is 8% and the risk-free rate is 5%, what is the fund's required rate of return? Do not round intermediate calculations. Round your answer to two decimal places.

CAPM AND REQUIRED RETURN

Calculate the required rate of return for Mudd Enterprises assuming that investors expect a 3.6% rate of inflation in the future. The real risk-free rate is 1.5%, and the market risk premium is 7.5%. Mudd has a beta of 2.6, and its realized rate of return has averaged 12.5% over the past 5 years. Round your answer to two decimal places.

Answer 1

PORTFOLIO REQUIRED RETURN

Beta of the portfolio

Stocks	Amount Invested ($)	Weight to the Total Value	Beta of the stock	Overall Beta
A	3,40,000	0.0642	1.50	0.10
B	7,60,000	0.1434	-0.50	-0.07
C	13,00,000	0.2453	1.25	0.31
D	29,00,000	0.5472	0.75	0.41
TOTAL	53,00,000	1.0000		0.74

As per Capital Asset Pricing Model [CAPM], the Required Rate of Return is calculated by using the following equation

Required Rate of Return = Risk-free Rate + Beta(Market Rate of Return – Risk-free Rate)

= 5.00% + 0.74[8.00% - 5.00%]

= 5.00% + [0.74 x 3.00%]

= 5.00% + 2.22%

= 7.22%

“Hence, the Portfolio’s Required Rate of Return will be 7.22%”

CAPM AND REQUIRED RETURN

As per Capital Asset Pricing Model [CAPM], the Required Rate of Return is calculated by using the following equation

Required Rate of Return = [Inflation Rate + Risk-free Rate] + [Beta x Market Risk Premium]

= [3.60%+ 1.50%] + [2.60 x 7.50%]

= 5.10% + 19.50%

= 24.60%