Question

You have been managing a $5 million portfolio that has a beta of 0.95 and a required rate of return of 12%. The current risk-free rate is 7.50%. Assume that you receive another $500,000. If you invest the money in a stock with a beta of 1.15, what will be the required return on your $5.5 million portfolio? Do not round intermediate calculations. Round your answer to two decimal places.

Answer 1

As per CAPM

expected return = risk-free rate + beta * (expected return on the market - risk-free rate)

12 = 7.5 + 0.95 * (Market return% - 7.5)

Market return% = 12.24

new beta = old beta*old portfolio amount/new portfolio amount+new investment beta*new investment amount/new portfolio amount

=0.95*5/5.5+1.15*0.5/5

=0.97863

As per CAPM

expected return = risk-free rate + beta * (expected return on the market - risk-free rate)

Expected return% = 7.5 + 0.97863 * (12.24 - 7.5)

Expected return% = 12.14