Question

Suppose you are the money manager of a $4.36 million investment fund. The fund consists of four stocks with the following investments and betas:

Stock Investment Beta

A. 580,000. 1.50

B. 700,000. (0.50)

C. 980,000. 1.25

D 2,100,000. 0.75

if the market's required rate of return is 8% and the risk-free rate is 5%, what is the fund's required rate of return?

Answer 1

The required rate of return is computed as shown below:

= risk free rate + beta x (return on market - risk free rate)

Beta is computed as follows:

= Beta of stock A x weight of stock A + Beta of stock B x weight of stock B + Beta of stock C x weight of stock C + Beta of stock D x weight of stock D

= 1.50 x $ 580,000 / 4,360,000 - 0.50 x $ 700,000 / $ 4,360,000 + 1.25 x $ 980,000 / $ 4,360,000 + 0.75 x $ 2,100,000 / $ 4,360,000

= 0.76146789

So, the return will be as follows:

= 5% + 0.76146789 x (8% - 5%)

= 7.28% Approximately

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