Problem 20-17 (Algo) The following is part of the computer output from a regression of monthly returns on Waterworks stock against the S&P 500 Index. A hedge fund manager believes that Waterworks is underpriced, with an alpha of 1% over the coming month. Beta 0.60 R-square 0.65 Standard Deviation of Residuals 0.06 (1.e., 6% monthly)
Problem 20-17 (Algo) The following is part of the computer output from a regression of monthly returns on Waterworks stock against the S&P 500 Index. A hedge fund manager believes that Waterworks is underpriced, with an alpha of 1% over the coming month. Beta 0.60 R-square 0.65 Standard Deviation of Residuals 0.06 (1.e., 6% monthly)
Essentials Of Investments
11th Edition
ISBN:9781260013924
Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Chapter1: Investments: Background And Issues
Section: Chapter Questions
Problem 1PS
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Transcribed Image Text:Problem 20-17 (Algo)
The following is part of the computer output from a regression of monthly returns on Waterworks stock against the S&P 500 Index. A
hedge fund manager believes that Waterworks is underpriced, with an alpha of 1% over the coming month.
Beta
0.60
R-square
0.65
Required:
a. Suppose you hold an equally weighted portfolio of 100 stocks with the same alpha, beta, and residual standard deviation as
Waterworks. Assume the residual returns (the e terms in Equations 20.1 and 20.2) on each of these stocks are independent of each
other. What is the residual standard deviation of the portfolio? (Round your percentage answer to 2 decimal places.)
Residual standard deviation
Standard Deviation
of Residuals
0.06 (1.e., 6% monthly)
Probability of a loss
b. Recalculate the probability of a loss on a market-neutral strategy involving equally weighted, market-hedged positions in the 100
stocks over the next month. Assume the risk-free rate is 1.3% per month. (Do not round intermediate calculations. Round your
percentage answer to 5 decimal places.)
%
%
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