Question

12-You own a portfolio that has 6,600 shares of stock A, which is priced at 18.4 dollars per share and has an expected return of 6.88 percent, and 1,400 shares of stock B, which is priced at 28.9 dollars per share and has an expected return of 15.14 percent. The risk-free return is 3.14 percent and inflation is expected to be 1.42 percent. What is the expected real return for your portfolio? Answer as a rate in decimal format so that 12.34% would be entered as .1234 and 0.98% would be entered as .0098.

Answer 1

Given about a portfolio,

portfolio that has 6600 shares of stock A, which is priced at 18.4 dollars per share and has an expected return of 6.88 percent

=> Value of stock A in portfolio = number of share*price = 6600*18.4 = $121440

Expected return Ra = 6.88%

portfolio that has 1400 shares of stock B, which is priced at 28.9 dollars per share and has an expected return of 15.14 percent

=> Value of stock B in portfolio = number of share*price = 1400*28.9 = $40460

Expected return Rb = 15.14%

So, total portfolio value = Value of stock A in portfolio + Value of stock B in portfolio = 121440 + 40460 = $161900

Weight of stock A in portfolio, Wa = Value of stock A in portfolio/total portfolio value = 121440/161900 = 0.7501

Weight of stock B in portfolio, Wb = Value of stock B in portfolio/total portfolio value = 40460/161900 = 0.2499

So, expected return on portfolio is weighted average return on its assets

=> expected return on portfolio = Wa*Ra + Wb*Rb = 0.7501*6.88 + 0.2499*15.14 = 8.94%

So, expected real return on the portfolio is expected return - inflation rate =  8.94 - 1.42 = 7.52% or 0.0752