Question

Q1) There is a 33.70% probability of a below average economy and a 66.30% probability of an average economy.  If there is a below average economy stocks A and B will have returns of 2.70% and 14.90%, respectively.  If there is an average economy stocks A and B will have returns of 4.40% and -4.30%, respectively. Compute the:         a) Expected Return for Stock A (0.75 points):

b) Expected Return for Stock B (0.75 points):

c) Standard Deviation for Stock A (0.75 points):

d) Standard Deviation for Stock B (0.75 points):

Q2) There is a 48.20% probability of an average economy and a 51.80% probability of an above average economy.  You invest 25.40% of your money in Stock S and 74.60% of your money in Stock T.  In an average economy the expected returns for Stock S and Stock T are 14.90% and 14.90%, respectively.  In an above average economy the the expected returns for Stock S and T are 35.80% and 17.50%, respectively.  What is the expected return for this two stock portfolio? (2 points)

Q3) You are invested 27.90% in growth stocks with a beta of 1.80, 16.10% in value stocks with a beta of 0.52, and 56.00% in the market portfolio.  What is the beta of your portfolio? (1 point)

Q4) An analyst gathered the following information for a stock and market parameters: stock beta = 0.75; expected return on the Market = 11.20%; expected return on T-bills = 2.30%; current stock Price = $7.79; expected stock price in one year = $10.57; expected dividend payment next year = $3.19. Calculate the       a) Required return for this stock (1 point):

b) Expected return for this stock  (1 point):

Q5) The market risk premium for next period is 8.00% and the risk-free rate is 1.20%. Stock Z has a beta of 1.15 and an expected return of 10.30%. What is the:     a) Market's reward-to-risk ratio? (1 point):

b) Stock Z's reward-to-risk ratio (1 point):

Answer 1

Question 1

a) Expected Return for Stock A

State of economy	Probability	Rate of Return(%)	Probability*Rate of Return
Below average	0.337	27	9.10
Average	0.663	4.4	2.92

Expected Return for Stock A = Probability*Rate of Return

= 9.10+2.92

=12.02%

b) Expected Return for Stock B

State of economy	Probability	Rate of Return(%)	Probability*Rate of Return
Below average	0.337	14.9	5.02
Average	0.663	-4.3	-2.85

Expected Return for Stock B = Probability*Rate of Return

= 5.02-2.85

= 2.17%

c) Standard Deviation for Stock A

State of economy	Probability	Rate of Return (%)	Deviation from expected return of 12.02%(D2)	PD2^2
Below average	0.337	27	14.98	75.62
Average	0.663	4.4	-7.62	38.50

Variance = PD2^2

= 75.62+38.50

= 114.12

Standard Deviation = Variance

= 114.12

= 10.68

d) Standard Deviation for Stock B

State of economy	Probability	Rate of Return (%)	Deviation from expected return of 2.17%(D1)	PD1^2
Below average	0.337	14.9	12.73	54.61
Average	0.663	-4.3	-6.47	27.75

Variance = PD1^2

= 54.61+27.75

= 82.37

Standard Deviation = Variance

= 82.37

= 9.08

Question 2

Expected Return for Stock S = (14.9*.482) + (35.8*.518) = 25.73%

Expected Return for Stock T = (14.9*.482) + (17.5*.518) = 16.25%

The return of a portfolio is the weighted average return of the securities which constitute the porfolio

Portfolio Return = (.254*25.73) + (.746*16.25)

= 18.66%

Question 3

The beta of a portfolio is the weighted average beta of the securities which constitute the porfolio

Security	Weight	Beta	Weight*Beta
growth Stock	0.279	1.8	0.50
value Stock	0.161	0.52	0.08
Market portfolio	0.56	1	0.56

portfolio beta = .50+.08+.56

= 1.15

note: beta of market portfolio is +1