The UIB company desires to construct a portfolio with 15% expected return. The portfolio is to consist of some combination of security X and security Y, which have the following expected returns, standard deviations of returns, Security X Security Y Market Risk free rate Expected return 8% 19% 13% 2% Standard deviations 6% 15% 4% Beta 0.94 1.5 1. Determine the beta of the portfolio 2. Should UIB invest in the portfolio. Justify. 3. Compute the correlation between security Y and the market 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.
The UIB company desires to construct a portfolio with 15% expected return. The portfolio is to consist of some combination of security X and security Y, which have the following expected returns, standard deviations of returns,
| Security X | Security Y | Market | Risk free rate | |
| Expected return | 8% | 19% | 13% | 2% |
| Standard deviations | 6% | 15% | 4% | |
| Beta | 0.94 | 1.5 |
1. Determine the beta of the portfolio
2. Should UIB invest in the portfolio. Justify.
3. Compute the correlation between security Y and the market portfolio.
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