Question 1 (Risk and Return)
Given the following information on a portfolio of 3 stocks held by Asif Thakor:
State of Mei Wa Rate Man-Lei Rate Masair Rate
Economy Probability of Return of Return of Return
Boom 0.35 0.30 0.45 1.35
Normal 0.40 0.20 0.25 0.45
Bust 0.25 0.00 -0.35 -0.95
a. If Asif’s portfolio is invested 30% in Mei Wa, 50% in Man-Lei, and 20% in Masair, what is
the portfolio expected return? The variance? The standard deviation?
b. If the expected T-Bill rate is 5%, what is the expected risk premium on the portfolio?
c. If the expected inflation rate is 2%, what is the expected real return on the portfolio? What is
the expected real risk premium on the portfolio?
d. What is the required rate of return on the portfolio, if the market risk premium is 7%, and
portfolio beta is 1.6?
Question 2 (Risk and Return)
Following is the historical cash dividend and price data on Aaron Kam & Yeon Kim Systems
(AYS) and Nhi La & Eric Leung Enterprises (NEE) stocks:
Aaron Kam & Yeon Kim Systems Nhi La & Eric Leung Enterprises
Cash Yr. end Cash Yr. end
Year Dividend Price Year Dividend Price
1993 $--- $40.00 1993 $--- $15.00
1994 2.00 43.00 1994 --- 22.00
1995 2.50 38.50 1995 0.50 18.50
1996 2.50 48.00 1996 0.50 14.00
1997 3.00 44.00 1997 0.50 28.50
a. Calculate the yearly rate of returns for AYS and NEE stocks, and a portfolio comprised of
40% invested in AYS stock and 60% invested in NEE stock.
b. Calculate the mean rate of returns and standard deviations for AYS stock, NEE stock and the
portfolio. Suppose the risk free rate is 4%. Calculate the Sharpe ratios of both stocks and that
of the portfolio. What is your conclusion based on these Sharpe ratios?