Question

Let µ_E be the expected return of an efficient portfolio E. Under CAPM let:
The expected return of the market portfolio = 10%
The rate of return of the risk free asset = 2%
The beta value of E = 1.2

Q1 What is the expected return of the efficient portfolio E to one decimal place?

Q2 If the standard deviation of the market portfolio is 8%, then what is the standard deviation of efficient portfolio E to one decimal place?

Answer 1

Expected return” is a long-term assumption about how an investment will play out over its entire life.

The risk-free rate should correspond to the country where the investment is being made, and the maturity of the bond should match the time horizon of the investment.

The beta is a measure of a stock’s risk (volatility of returns) reflected by measuring the fluctuation of its price changes relative to the overall market.

The market risk premium represents the additional return over and above the risk-free rate, which is required to compensate investors for investing in a riskier asset class.

CAPM FORMULA:-

" Expected return of an efficient portfolio(E) =Risk free rate + (beta value * market portfolio) "

here we have, Risk free rate= 2%

Beta value = 1.2

Market portfolio=10%

we put all these in the formula to find out "E"

E=2% + (1.2 *10%)  

E=14% (Answer of question no 1)

Q.2 Market portfolio = 8%

Beta value = 1.2

Risk free rate =2%

formula = E = Risk rate + (Beta value * Market portfolio)

E = 2% + ( 1.2 * 8%)

E = 2.09 (Answer)