Question

Two investment advisers are comparing performance. One averaged a 15.14% rate of return and the other a 18.89% rate of return. However, the β of the first investor was 1.5, whereas that of the second investor was 1.

Required: Suppose that the T-bill rate was 3% and the market return during the period was 15%. Aside from the issue of general movements in the market, outline the difference between the superior and inferior portfolios.

Answer% Do not round intermediate calculations. Input your answer as a percent rounded to 2 decimal places (for example: 28.31%).

Answer 1

Answer: 9.75%

.

ALPHA = EXPECTED RETURN - REQUIRED RETURN

ALPHA = Rp - [Rf + beta(Rm - Rf)]

FIRST INVESTOR	SECOND INVESTOR
ALPHA = Rp - [Rf + beta(Rm - Rf)] ALPHA = 15.14% [3% + 1.5(15% - 3%)] ALPHA = -5.86%	ALPHA = Rp - [Rf + beta(Rm - Rf)] ALPHA = 18.19% [3% + 1(15% - 3%)] ALPHA = 3.89%

The second Investor has larger Abnormal Return as Alpha is positive and higher than First Investor.

So Second Investor has Superior Portfolio and First Investor has Inferior Portfolio.

.

Difference:

= 3.89% - (-5.86%)

= 9.75%