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The document contains sample investment scenarios and questions to calculate key metrics like expected returns, standard deviations, portfolio returns and ranges. It provides answers to review problems on 2 sample stocks (Cisco and hypothetical Stocks A & B) and portfolio returns. Multiple choice questions test calculations of expected returns, standard deviations and ranges for individual stocks and portfolios.

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Shiv Shakti Singh
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154 views4 pages

CV

The document contains sample investment scenarios and questions to calculate key metrics like expected returns, standard deviations, portfolio returns and ranges. It provides answers to review problems on 2 sample stocks (Cisco and hypothetical Stocks A & B) and portfolio returns. Multiple choice questions test calculations of expected returns, standard deviations and ranges for individual stocks and portfolios.

Uploaded by

Shiv Shakti Singh
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as DOC, PDF, TXT or read online on Scribd
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1. You buy Cisco stock for $50 a share. Cisco’s stock rises to $100 the next year.

The following
year, Cisco’s stock falls back to $50 a share.
A. What was your arithmetic return over the two years?
B. What was your geometric return over the two years?

2. You are given the following estimates for Stock’s A and B.


State of Economy Probability A B
Poor 0.25 -5% -8%
Normal 0.5 8% 10%
Good 0.25 12% 22%
A. What are the expected returns for stock’s A and B respectively?
B. What are the standard deviations for stock’s A and B respectively?
C. Which stock is riskier?
D. Approximately two thirds of the time, the returns for A and B should be within what ranges
respectively?

Answers to Review Problems


1.
A. The arithmetic return is simply (100% + -50%/2) = 25%.
B. The geometric return is [(1+1.0)*(1-.50)]^.5 – 1 = 0%.

2.
A. The expected return for A is .25(-5) + .5(8) + .25(12) = 5.75% and the expected return for B
is .25(-8) + .5(10) + .25(22) = 8.5%
B. The standard deviation for A is the square root of [25(-5-5.75)^2 + .5(8-5.75)^2 + .25(12-
5.75)^2] = 6.42% and the standard deviation for B is the square root of [.25(-8-8.5)^2 + .5(10-
8.5)^2 + .25(22-8.5)^2] = 10.62%.
C. Stock B is riskier since its standard deviation of returns is higher. It is a more volatile stock
and thus should offer greater expected return.
D. Two thirds of the time, returns should be within +/- 1 standard deviation of the expected
return. Thus for stock A, the range is 5.75% +/- 6.42% or between –.67 and 12.17%. For stock
B, the range is 8.5% +/- 10.62% = -2.12 and 19.12.

Review Problems
3. You have decided to invest 40% of your wealth in McDonalds which has an expected return of
15% and a standard deviation of 15%, and 60% of your wealth in GE which has an expected
return of 9% and a standard deviation of 14%.
a. What is the expected return of your portfolio?
b. If the correlation between McDonalds and GM is 0.5, what is the standard deviation of your
portfolio?
c. If you wanted an expected return of 13%, what percentage should you invest in McDonalds?
d. Based on your percentages in part c, what would the standard deviation of this portfolio be?

4. The table below gives the amount invested and betas for three stocks.
Stock Amount Invested Beta
GM $10,000 1.0
IBM $10,000 1.2
WMT $20,000 0.7

a. Using the CAPM, if the expected return for the market is 9% and the risk-free rate is 3%, what
is the expected return for each stock?
b. What is the beta for this portfolio based on the invested amounts?
c. Using the CAPM, what is the expected return for this portfolio?

Answers to Review Problems


3.
a. E(R) = .4(15) + .6(9) = 11.4%
b. The square root of [.42 * .152 + .62 * .142 + 2(.4)(.6)(.5)(.15)(.14)] = 12.51%
c. 13 = w1(15) + (1-w1 )9 where w1 = amount in McDonalds. Solving for w1 = 67%
d. The standard deviation of the portfolio in part c would be the square root of [.67 2 * .152 + .332
* .142 + 2(.67)(.33)(.5)(.15)(.14)] = 13.1%.
4.
a. E(R) = rf + B[E(Rm) – rf], so E(GM) = 3 + 1(9 – 3) = 9%, E(IBM) = 3 + 1.2(9 – 3) = 10.2%,
E(WMT) = 3 + .7(9 – 3) = 7.2%.
b. Beta for a portfolio equals the weighted sums of the individual betas. In this case, beta for
portfolio = 0.25(1) + 0.25(1.2) + .5(0.7) = 0.9.
c. E(Return for portfolio) = 3 + 0.9*(9-3) = 8.4%.

Multiple Choice Group A

Use the following data to answer the next two questions.


The annual rate of return for JSI’s common stock has been:
1989 1990 1991 1992
Return 14% 19% -10% 14%

1. What is the arithmetic mean of the rate of return for JSI’s common stock over the four years?
a. 8.62%
b. 9.25%
c. 14.25%
d. None of the above

2. What is the geometric mean of the rate of return for JSI’s common stock over the four years?
a. 8.62%
b. 9.25%
c. 14.21%
d. Cannot be calculated due to the negative return in 1991

3. An analyst estimates that a stock has the following probabilities of return depending on the state of the
economy:
State of Economy Probability Return
Good 0.1 15%
Normal 0.6 13%
Poor 0.3 7%
The expected return of the stock is:
a. 7.8%
b. 11.4%
c. 11.7%
d. 13.0%

Use the following expectations on Stocks X and Y to answer the following three questions
Bear Market Normal Market Bull Market
Probabilit
y 0.2 0.5 0.3
Stock X -20% 18% 50%
Stock Y -15% 20% 10%

4. What are the expected returns for Stocks X and Y?


Stock X Stock Y
a. 18% 5%
b. 18% 12%
c. 20% 11%
d. 20% 10%

5. What are the standard deviations of returns on Stocks X and Y?


Stock X Stock Y
a. 15% 26%
b. 20% 4%
c. 24% 13%
d. 28% 8%

6. Assume that of your $10,000 portfolio, you invest $9,000 in Stock X and $1,000 in Stock Y.
What is the expected return on your portfolio?
a. 18%
b. 19%
c. 20%
d. 23%

7. If you buy an PG&G stock which has an expected return of 8% and a standard deviation of
12%, approximately 2/3 of the time you should expect to earn between
a. 8% and 12%
b. 0% and 24%
c. –12% and 12%
d. –4% and 20%

Answers to Multiple Choice B


1. b 6. b
2. a
3. b 7. d
4. d
5. c

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