Business, 21.10.2020 16:01 QueenFlowerCrown98

Consider the following information: Portfolio Expected Return Beta Risk-free 7 % 0 Market 12.2 1.0 A 11.0 1.6 a. Calculate the return predicted by CAPM for a portfolio with a beta of 1.6. (Round your answer to 2 decimal places.) b. What is the alpha of portfolio A. (Negative value should be indicated by a minus sign. Round your answer to 2 decimal places.) c. If the simple CAPM is valid, is the situation above possible?

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Answer from: bellsbella34

a. Return predicted by CAPM = 15.32%

b. Alpha of portfolio A = -0.4.32%

c. No, the situation above is not because CAPM is not valid.

Explanation:

Beofre answering the questions, the data given in the question which are merged together are represented as follows:

Portfolio Expected Return (%) Beta

Risk-free 7 0

Market 12.2 1.0

A 11.0 1.6

a. Calculate the return predicted by CAPM for a portfolio with a beta of 1.6. (Round your answer to 2 decimal places.)

This can be calculated using the following formula:

Return predicted by CAPM = Rf + beta * (Rm - Rf) (1)

Where;

Rf = Risk-free Expected Return = 7% = 0.07

Rm = Market Expected Return = 12.2% = 0.122

beta = 1.6

Substituting the values into equation (1), we have:

Return predicted by CAPM = 0.07 + 1.6 * (0.122 - 0.07) = 0.1532, or 15.32%

b. What is the alpha of portfolio A. (Negative value should be indicated by a minus sign. Round your answer to 2 decimal places.)

This can be calculated using the following formula:

Alpha of portfolio A = Portfolio A Expected Return - Return predicted by CAPM (2)

Where;

Portfolio A Expected Return = 11.0%

Return predicted by CAPM = 15.32%

Substituting the values into equation (2), we have:

Alpha of portfolio A = 11.0% - 15.32% = -0.4.32%.

c. If the simple CAPM is valid, is the situation above possible?

No, the situation above is not because CAPM is not valid.

The reason is that when beta is equal to 1.6, the 11.0% expected return of stock A is less than the 12.2% expected market return, but what we should have had instead is an expected return of stock A that higher than the expected market return.

Answer from: Quest

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Answer from: Quest

What is an agreement among firms to divide the market, set prices, or limit production called? this is called collusion

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