Multifactor Models Suppose stock returns can be explained by a two-factor model. The firm-specific risks for all stocks are independent. The following table shows the information for two diversified portfolios:
| β 1 | β2 | E(R) |
Portfolio A | .85 | 1.15 | 16% |
Portfolio B | 1.45 | –.25 | 12 |
If the risk-free rate is 4 percent, what are the risk premiums for each factor in this model?
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