You own $1,600 of Soap Corp. stock that has a beta of 2.1. You also own...

You own $1,600 of Soap Corp. stock that has a beta of 2.1. You also own $2,800 of Shampoo (beta = 1.25), $1,250 of Rinse (beta = 0.6) and $3,750 of Waxway (beta = 3.6). Assume that the market return will be 15 percent and the risk-free rate is 6.5 percent. What is the total risk premium of the portfolio?

Solutions

Expert Solution

Total Portfolio value = Value of Soap + Value of Shampoo + Value of Rinse + Value of Waxway

=1600+2800+1250+3750

=9400

Weight of Soap = Value of Soap/Total Portfolio Value

= 1600/9400

=0.1702

Weight of Shampoo = Value of Shampoo/Total Portfolio Value

= 2800/9400

=0.2979

Weight of Rinse = Value of Rinse/Total Portfolio Value

= 1250/9400

=0.133

Weight of Waxway = Value of Waxway/Total Portfolio Value

= 3750/9400

=0.3989

Beta of Portfolio = Weight of Soap*Beta of Soap+Weight of Shampoo*Beta of Shampoo+Weight of Rinse*Beta of Rinse+Weight of Waxway*Beta of Waxway

Beta of Portfolio = 2.1*0.1702+1.25*0.2979+0.6*0.133+3.6*0.3989

Beta of Portfolio = 2.2457

As per CAPM

expected return = risk-free rate + beta * (expected return on the market - risk-free rate)

Expected return% = 6.5 + 2.2457 * (15 - 6.5)

Expected return% = 25.59

Risk premium = Expected return-risk free rate = 25.59-6.5=19.09

jeff jeffy answered 1 year ago

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