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Corporate Financial Management:Portfolio Theory 11. a. Suppose you observed that high-level managers make superior returns on...

Corporate Financial Management:Portfolio Theory

11. a. Suppose you observed that high-level managers make superior returns on investments in their company’s stock. Would this be a violation of weak form efficiency? strong-form market efficiency? (30%)

  1. Your portfolio consists solely of 40% of security A, 15% of security B, and 45% of security C. Security A has a beta of 1.16, security B has a beta of 1.47, and security C has a beta of 0.42. What is the beta of your portfolio? (30%)
  2. Your friend Matthew has inherited €100,000 and would like to invest it in the stock market. Given his love of Apple technology, he has decided that he will invest all €100,000 in shares of Apple Inc. You recently spent a number of weeks in your finance class learning about risk and expected return and know that this is not a wise investment strategy. Explain in detail to Matthew why his planned investment decision is not optimal and make a recommendation as to what he could do in order to improve the risk/return profile of his portfolio. (40%)
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Answer #1

11. a). Answer :- There will not be any violation of weak form efficiency in the given question. However, strong form efficiency is violated because stock prices may not reflect the personal / private information available with the high-level managers.

11. b). Solution :- Beta of portfolio = Weight of security A * Beta of security A + Weight of security B * Beta of security B + Weight of security C * Beta of security C.

= 0.40 * 1.16 + 0.15 * 1.47 + 0.45 * 0.42

= 0.464 + 0.2205 + 0.189

= 0.8735

Conclusion:- Beta of portfolio = 0.8735

(Beta of portfolio is the weighted average beta of all the securities in the portfolio).

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