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 2% over the coming month. beta 0.40 R-square 0.65 Standard Deviation of Residuals 0.07 (1.e., 76 monthly) 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 201 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 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 0.9% per month. (Do not round intermediate calculations. Round your percentage answer to 5 decimal places.) Probability of a loss
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 2% over the coming month. beta 0.40 R-square 0.65 Standard Deviation of Residuals 0.07 (1.e., 76 monthly) 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 201 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 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 0.9% per month. (Do not round intermediate calculations. Round your percentage answer to 5 decimal places.) Probability of a loss
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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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
![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 2% over the coming month.
Beta
0.60
R-square
0.65
Standard Deviation
of Residuals
0.07 (1.e., 78 monthly)
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 201 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
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 0.9% per month. (Do not round intermediate calculations.
Round your percentage answer to 5 decimal places.)
Probability of a loss
%](/v2/_next/image?url=https%3A%2F%2Fcontent.bartleby.com%2Fqna-images%2Fquestion%2F14af28c5-b0fc-4380-84f1-1a535e932adc%2F3e9920db-8179-4920-bc2f-b27441f2dca5%2F4wd6q1u_processed.jpeg&w=3840&q=75)
Transcribed Image Text: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 2% over the coming month.
Beta
0.60
R-square
0.65
Standard Deviation
of Residuals
0.07 (1.e., 78 monthly)
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 201 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
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 0.9% per month. (Do not round intermediate calculations.
Round your percentage answer to 5 decimal places.)
Probability of a loss
%
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