Question

1. Answer the following questions. Assume a two-stock portfolio XY is created with $6000 invested in security X and $9000 in security Y. The expected return and the variance for Portfolio XY is 23.32% and 0.45%, respectively. What is the coefficient of variation for Portfolio XY?

Select one:

a. 0.67

b. 0.43

c. 0.24

d. 0.47

e. 0.29

2. Continued from previous question. Assume the yield curve is flat and the T-bill rate is 5%. The market risk premium is 10%. Portfolio XY has a market beta of 2.5. What is the required rate of return for Portfolio XY?

Select one:

a. 30.0%.

b. 20.0%.

c. 12.5%.

d. 17.5%.

e. 13.5%.

3. Continued from previous questions. Compare the required rate of return with the predicted rate of return (expected rate of return) of Portfolio XY, which of the following statements is most correct?

Select one:

a. The portfolio should be sold.

b. The portfolio is experiencing supernormal growth.

c. The portfolio has a larger expected return than most of the stocks.

d. The portfolio is not paying dividends.

e. The portfolio is a good buy.

Answer 1

Ques-1)

Expected Return of Portfolio XY = 23.32%

Variance of Portfolio XY = 0.45%

Standard Deviation = (Variance)^1/2 = (0.0045)^1/2

= 0.06708 or 6.708%

Coefficient of variation for Portfolio XY = Standard Deviation/Standard Deviation

= 6.708%/23.32%

= 0.29

So, Coefficient of variation for Portfolio XY is 0.29

Hence, Option E

Ques-2) As per CAPM,

Rf = Risk free Return = 5%

Rm = Market Risk Premium = 10%

beta = 2.5

Required rate of Return = 5% + 2.5(10%)

= 30%

Hence, Option A

Ques-3)

Required rate of return = 30%

Expected rate of return = 23.32%

As the Required rate of return is higher the Expected return, the Portfolio is overvalued as it is not providing return in realtion to its price. Thus, Portfolio should be sold.

Henec, Option A