a) Assume that there are two states of the economy, namely a booming economy and a stagnant economy. In a booming economy, a stock brings 35% return while it brings 5% return in a stagnant economy. If the expected return on the stock is 15%, what is the probability of a booming economy (pboom )? b) An investor divides her portfolio into three parts with equal weights: one part in a risk-free asset, one part in a market portfolio, and one part in a stock with beta of 1.50. What is the beta of the investor's overall portfolio?
Risk and return
Before understanding the concept of Risk and Return in Financial Management, understanding the two-concept Risk and return individually is necessary.
Capital Asset Pricing Model
Capital asset pricing model, also known as CAPM, shows the relationship between the expected return of the investment and the market at risk. This concept is basically used particularly in the case of stocks or shares. It is also used across finance for pricing assets that have higher risk identity and for evaluating the expected returns for the assets given the risk of those assets and also the cost of capital.
- a) Assume that there are two states of the economy, namely a booming economy and a stagnant economy. In a booming economy, a stock brings 35% return while it brings 5% return in a stagnant economy. If the expected return on the stock is 15%, what is the probability of a booming economy (pboom )?
b) An investor divides her portfolio into three parts with equal weights: one part in a risk-free asset, one part in a market portfolio, and one part in a stock with beta of 1.50. What is the beta of the investor's overall portfolio?
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