FIN 486 CART Become Exceptional--fin486cart.com FIN 486 Entire Course - Page 9

and M. Stock L will represent 40% of the dollar value of the portfolio, and stock M will account for the other 60%. The expected returns over the next 6 years, 2015–2020, for each of these stocks are shown in the following table. Expected return Year Stock L Stock M 2015 14% 20% 2016 14 18 2017 16 16 2018 17 14 2019 17 12 2020 19 10 a. Calculate the expected portfolio return, rp, for each of the 6 years. b. Calculate the expected value of portfolio returns, , over the 6-year period. c. Calculate the standard deviation of expected portfolio returns, , over the 6-year period. d. How would you characterize the correlation of returns of the two stocks L and M? e. Discuss any benefits of diversification achieved by Jamie through creation of the portfolio. P8–24 Capital asset pricing model (CAPM) For each of the cases shown in the following table, use the capital asset pricing model to find the required return. Case Risk-free rate, RF Market return, rm Beta,β A 5% 8% 1.30 B 8 13 0.90 C 9 12 −0.20 D 10 15 1.00 E 6 10 0.60 P8–25 Beta coefficients and the capital asset pricing model Katherine Wilson is wondering how much risk she must undertake to generate an acceptable return on her portfolio. The risk-free return currently is 5%. The return on the overall stock market is 16%. Use the CAPM to calculate how high the beta coefficient of Katherine’s portfolio would have to be to achieve each of the following expected portfolio returns. a. 10% b. 15% c. 18% d. 20% e. Katherine is risk averse. What is the highest return she can expect if she is unwilling to take more than an average risk? P8–26 Manipulating CAPM Use the basic equation for the capital asset pricing model (CAPM) to work each of the following problems. a. Find the required return for an asset with a beta of 0.90 when the risk-free rate and market return are 8% and 12%, respectively. b. Find the risk-free rate for a firm with a required return of 15% and a beta of 1.25 when the market return is 14%. c. Find the market return for an asset with a required return of 16% and a beta of 1.10 when the risk-free rate is 9%. d. Find the beta for an asset with a required return of 15% when the risk-free rate and market return are 10% and 12.5%, respectively. P5–1 Using a time line The financial manager at Starbuck Industries is considering an investment that requires an initial outlay of $25,000 and is expected to result in cash inflows of $3,000 at the end of year 1, $6,000 at the end of years 2 and 3, $10,000 at the end of year 4, $8,000 at the end of