Question

What is the expected return of a portfolio with two stocks that has 2,800 shares of stock A, which has a price of 20.9 dollars per share and an expected return of 5.88 percent, and 69,700 dollars of stock B, which has a beta of 1.79? The market has an expected return of 15.29 percent, the inflation rate is 1.02 percent, and the risk-free rate is 5.18 percent. Answer as a rate in decimal format so that 12.34% would be entered as .1234 and 0.98% would be entered as .0098.

Answer 1

Required rate of return as per the CAPM ,

E(r) = risk free rate + ( market return - risk free rate ) * beta

Nominal risk free rate = real risk free rate + inflation premium = 1.02 + 5.18 = 6.20

Required rate of return for Stock B = 6.20 + ( 15.29 - 6.20 ) *1.79 = 22.47%

value of stock A = 2800 * 20.90 = 58520

Total value of portfolio = 58520 + 69700 = 128220

Portfolio return = weightage average of returns of the stocks in portfolio

= 58520 / 128220 * 5.88 + 69700 / 128220 * 22.47

= 0.1490