🏷️ LIMITED TIME OFFER: GET 20% OFF GRADE+ YEARLY SUBSCRIPTION →
Log in
HomeTextbook Notes300,000CA170,000

ADMS 3530 Chapter Notes - Chapter 12: Capital Asset Pricing Model, Market Portfolio, United States Treasury Security

30 views2 pages
School
York University
Department
Administrative Studies
Course
ADMS 3530
Professor
Professor

For unlimited access to Textbook Notes, a Class+ subscription is required.

Document Summary

Market portfolio: portfolio of all assets in the economy. Beta: sensitivity of a stock"s return to the return on the market portfolio. Find average of both positive and negative numbers. Find percentage points between the two averages. Beta portfolios = same equation as normal portfolios. Market risk premium (mrp): risk premium of market portfolio. Expected extra return on the market portfolio relative to the return on risk-free treasury bills. Capital asset pricing model: theory of the relationship between risk and return that states that the expected risk premium on any security equals its beta times the market risk premium. The expected rate of return demanded by investors depends on: compensation for the tvm (risk-free rate, risk premium, which depends on beta and the market risk premium. Market risk determines the extra return per unit of risk. If b=1. 0, then it is the expected market return. Security market line: relationship between expected return and beta.

Get access

Grade+20% off
$8 USD/m$10 USD/m
Billed $96 USD annually
Grade+
Homework Help
Study Guides
Textbook Solutions
Class Notes
Textbook Notes
Booster Class
40 Verified Answers
Class+
$8 USD/m
Billed $96 USD annually
Class+
Homework Help
Study Guides
Textbook Solutions
Class Notes
Textbook Notes
Booster Class
30 Verified Answers

Related Documents

ADMS 3530 Lecture Notes - Lecture 10: Tetrafluoromethane, Oil Platform, Opportunity Cost
mag0sea
ADMS 3530 Lecture Notes - Money Market Fund, Risk Premium, Chc Helicopter
ivorymouse990
ADMS 3530 Lecture Notes - Money Market Fund, Risk Premium, Chc Helicopter
ivorymouse990

Related Questions

Calculating the market risk premium beta and required rate of return. CAPM. Portfolio Risk & Return.

We have a portfolio of three positively correlated but not perfectly correlated stocks.

(Correlation co-efficient between 0-1)

Stock Expected Rate of Return Standard Deviation Beta

X 10% 16% .75

Y 12% 16% 1.25

Z 13% 16% 1.50

What is the market risk premium for the portfolio ?

Required Rate of Return For the Stock = Risk Free rate of Return +

+ ( Market Risk Premium * Beta of stock )

Market Risk Premium = Market Required Rate of Return – Risk Free rate of Return

The returns on stocks X, Y and Z and their beta have been provided. Using the information provided, we will first calculate the market risk premium.

The capital asset pricing model is a model based on the proposition that any stock's required rate of return is equal to the risk free rate of return plus a risk premium that reflects only the risk remaining after diversification.

The required rate of return for a stock is calculated by adding the risk free rate of return to the product of the market risk premium and the stock's beta.

The market risk premium shows the premium that investors require for bearing the risk of average stock and is calculated by deducting the risk free rate from the market's required rate of return.

Now, using stock X or any other stock, we can calculate the market risk premium. We'll use stock X. The expected return on this stock is 10%. The risk free rate is 7& and the stock's beta is .75.

By solving the equation we determine the market risk premium to be 4%.

Next, we will calculate the beta of Fund Q.

Fund Q has 1/3 of its funds invested in each of the three stocks X, Y, and Z.

Thus, the beta of Fund Q will be the sum of one third of the beta of each stock. One third of .75 is .25. One third of 1.25 is .4167 and one third of 1.5 is .5. By adding .25, .4167 and .5, we calculate the beta of Fund Q as 1.1667.

Let’s now calculate the required return of Fund Q. The risk free rate is 7%. The market risk premium is calculated to be 4%. The beta of Fund Q is 1.1667. By adding 7% to the product of 4% and 1.1667, we determine the required return on Fund Q to be 11.67%.

Since the returns on the three stocks included in Fund Q are not positively correlated, the standard deviation of the fund will be less than 16%.

1. If we are able to eliminate all of the unsystematic or diversifiable risk in a portfolio then, what is the result?

a.

a risk-free portfolio
b.
a portfolio that has an expected return of zero
c.

a portfolio that contains only systematic risk

2. A portfolio consists 20% of a risk-free asset and 80% of a stock. The risk-free return is 4%. The stock has an expected return of 15% and a standard deviation of 30%. What’s the expected return of the portfolio?

a.
9.5%
b.
15.0%
c.
12.8%

d.
2%


3. The risk-free rate is 5% and the expected return on the market portfolio is 13%. A stock has a beta of 1.5, what is its expected return?


a.
12%
b.
19.5%
c.

17%

4. For what value of the correlation coefficient for the returns of a pair of stocks will the benefits of diversification the largest?


a.

1.0
b.

-1.0
c.

0.0
d.

0.5


5. Which of the following is an example of systematic risk?
a.
IBM posts lower than expected earnings.
b.
The overall stock market becomes more risky due to super fasting trading algorithms.
c.

Intel announces record earnings.

6. According to the CAPM (capital asset pricing model), the security market line is a straight line. The intercept of this line should be equal to

a.
zero
b.
the expected risk premium on the market portfolio
c.
the expected return on the market portfolio
d.
the risk-free rate


7. A portfolio has 40% invested in Asset 1, 50% invested in Asset 2 and 10% invested in Asset 3. Asset 1 has a beta of 1.2, Asset 2 has a beta of 0.8 and Asset 3 has a beta of 1.8, what’s the beta of the portfolio?

a.
0.80
b.
1.06
c.
1.27


8. Suppose you can borrow and lend at the risk free-rate of 3%. Which of the following four risky portfolios has the best return relative to risk. (Hint: Calculate Sharpe Ratios the ratio of risk premium to standard deviation for each portfolio)

a.
portfolio with a standard deviation of 15% and an expected return of 12%
b.
portfolio with a standard deviation of 12% and an expected return of 9%
c.
portfolio with a standard deviation of 25% and an expected return of 18%
d.
portfolio with a standard deviation of 19% and an expected return of 15%


9. Which statements are TRUE regarding risk and return?

Statement I:
Diversification is the process of removing systematic risk from a portfolio.
Statement II:
In general, the greater the risk, the greater the return required by an investor.
Statement III:
Investors should focus on real returns if they are concerned about the purchasing power of their wealth.


a.
Statements II and III only
b.
Statement I only
c.
Statements I and III only
d.
Statements I and II only

10. The beta of the risk-free asset is:
a.

1.0
b.

0.5
c.

0.0
d.

-1.0

Assume you have a portfolio with the stocks and their information:


Stock. Total $ invested. Beta. Expected Return

DuPont. $25,000 0.99 10.12%

McDonald’s Corp. $50,000 0.72 8.16%

Ford. $60,000 1.24 12.2%

A.) Calculate Beta of the Portfolio.
B.) Calculate the Expected return for the portfolio using the CAPM and the beta value for the portfolio. Assume the market risk premium (Rm – Rrf) equals 6% and the Risk free rate (Rrf) equals the rate on a 2 year treasury 0.25%.