Question

ou plan to invest in the Kish Hedge Fund, which has total capital of $500 million invested in five stocks:

Stock	Investment	Stock's Beta Coefficient
A	$160 million	0.6
B	120 million	1.1
C	80 million	1.7
D	80 million	1.0
E	60 million	1.4 Kish's beta coefficient can be found as a weighted average of its stocks' betas. The risk-free rate is 6%, and you believe the following probability distribution for future market returns is realistic: Probability Market Return 0.1 -26 % 0.2 0 0.4 12 0.2 32 0.1 50 What is the equation for the Security Market Line (SML)? (Hint: First determine the expected market return.) ri = 6.0% + (7.6%)bi ri = 9.6% + (9.1%)bi ri = 6.0% + (9.0%)bi ri = 9.9% + (7.6%)bi ri = 9.9% + (9.0%)bi -Select-IIIIIIIVV Calculate Kish's required rate of return. Do not round intermediate calculations. Round your answer to two decimal places. % Suppose Rick Kish, the president, receives a proposal from a company seeking new capital. The amount needed to take a position in the stock is $50 million, it has an expected return of 15%, and its estimated beta is 1.5. Should Kish invest in the new company? The new stock -Select-should notshould be purchased. At what expected rate of return should Kish be indifferent to purchasing the stock? Round your answer to two decimal places. % Assume that the risk-free rate is 3.5% and the required return on the market is 8%. What is the required rate of return on a stock with a beta of 3? Round your answer to two decimal places.

Answer 1

The expected Market return =

Beta Of Portfolio =

Probability(P)	Market Return( R )	P*R
0.1	-26%	-0.026
0.2	0%	0
0.4	12%	0.048
0.2	32%	0.064
0.1	50%	0.05
		Sum
	Expected return(R-M)	13.60%

Stock	Investment	Weight (W= Investment/total investment)		Stock's Beta Coefficient	W*Beta
A	$160 million	160/500=	0.32	0.6	0.192
B	120 million	120/500=	0.24	1.1	0.264
C	80 million	80/500=	0.16	1.7	0.272
D	80 million	80/500=	0.16	1	0.16
E	60 million	60/500=	0.12	1.4	0.168
				Beta	1.056

Answer a) for SML,

R = Risk free + Beta ( Market return - Risk free return)

R = 6 %+ B ( 13.6% -6%) = 6% + 7.6% B . OPTION I.

Answer b) Required return ,

R = 6 %+ B ( 13.6% -6%) = 6% + 1.056* 7.6% = 14.03%

Answer c) at Beta= 1.5 , the expected return will be

R = 6 %+ 1.5 ( 13.6% -6%) = 17.40%

The new stock -Select-should not should be purchased , as the current return 15% is less than the required return of 17.40% .

Answer d) R = Risk free + Beta ( Market return - Risk free return)

R = 3.5% + 3 (8%-3.5%) = 17%.