Suppose that there are many stocks in the security market and that the characteristics of stocks A and B are given as follows:ExpectedReturn11%17Correlation = -1StockABStandardDeviation6%9Suppose that it is possible to borrow at the risk-free rate, rf. What must be the value of the risk-free rate? (Hint: Think aboutconstructing a risk-free portfolio from stocks A and B.)Note: Do not round intermediate calculations. Round your answer to 3 decimal places.Risk-free rate

StockExpected ReturnStandard deviationA11%6%B17%9%Correlation-1

Suppose that there are many stocks in the security market and that the characteristics of stocks A and B are given as follows: Expected Return 11% Stock A B Standard Deviation 6% 9 17 Correlation = -1 Suppose that it is possible to borrow at the risk-free rate, r. What must be the value of the risk-free rate? (Hint: Think about constructing a risk-free portfolio from stocks A and B.) Note: Do not round intermediate calculations. Round your answer to 3 decimal places. Risk-free rate %

Suppose that there are many stocks in the security market and that the characteristics of stocks A and B are given as follows: Expected Return 11% Stock A B Standard Deviation 6% 9 17 Correlation = -1 Suppose that it is possible to borrow at the risk-free rate, r. What must be the value of the risk-free rate? (Hint: Think about constructing a risk-free portfolio from stocks A and B.) Note: Do not round intermediate calculations. Round your answer to 3 decimal places. Risk-free rate %

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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Concept explainers

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.

Question

Suppose that there are many stocks in the security market and that the characteristics of stocks A and B are given as follows:
Expected
Return
11%
17
Correlation = -1
Stock
A
B
Standard
Deviation
6%
9
Suppose that it is possible to borrow at the risk-free rate, rf. What must be the value of the risk-free rate? (Hint: Think about
constructing a risk-free portfolio from stocks A and B.)
Note: Do not round intermediate calculations. Round your answer to 3 decimal places.
Risk-free rate

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Assume that security returns are generated by the single-index model, Ri a BiRM + ei where R₁ is the excess return for security /and Ry is the market's excess return. The risk-free rate is 3%. Suppose also that there are three securities A, B, and C, characterized by the following data: Security Bi E(Ri} #{@į) A 1.5 61 298 B 1.7 8 15 C 1.9 10 24 a. If oy 26%, calculate the variance of returns of securities A, B, and C. Answer is complete but not entirely correct. Variance Security A 1,521 Security B 1,609 Security C 2,440 b. Now assume that there are an infinite number of assets with return characteristics identical to those of A, B, and C, respectively. What will be the mean and variance of excess returns for securities A, B, and C? (Enter the variance answers as a percent squared and mean as a percentage. Do not round intermediate calculations. Round your answers to the nearest whole number.)
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Consider the following portfolio choice problem. The investor has initial wealth w andutility u(x) = (x^n) /n. There is a safe asset (such as a US government bond) that has netreal return of zero. There is also a risky asset with a random net return that has onlytwo possible returns, R1 with probability 1 − q and R0 with probability q. We assumeR1 < 0, R0 > 0. Let A be the amount invested in the risky asset, so that w − A isinvested in the safe asset.i) What are risk preferences of this investor, are they risk-averse, riskneutral or risk-loving?ii) Find A as a function of w.
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Suppose that many stocks are traded in the market and that it is possible to borrow at the risk-free rate, rƒ. The characteristics of two of the stocks are as follows: Stock Expected Return Standard Deviation A 8% 55% B 4% 45% Correlation = −1 Required: a. Calculate the expected rate of return on this risk-free portfolio? (Hint: Can a particular stock portfolio be formed to create a “synthetic” risk-free asset?) (Round your answer to 2 decimal places.) b. Could the equilibrium rƒ be greater than rate of return?
Baghiben
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