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Student Name: Luu Gia Bao Student ID: 1567033: HW Assignment For Week 3

This document contains a student's homework assignment for week 3. It includes 4 textbook problems involving calculations of expected return, standard deviation, coefficient of variation, Sharpe ratio, portfolio beta, and required rate of return for stocks. It also includes 3 additional practice problems calculating portfolio beta, expected return and standard deviation, and required return for an individual stock.

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Lưu Gia Bảo
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177 views5 pages

Student Name: Luu Gia Bao Student ID: 1567033: HW Assignment For Week 3

This document contains a student's homework assignment for week 3. It includes 4 textbook problems involving calculations of expected return, standard deviation, coefficient of variation, Sharpe ratio, portfolio beta, and required rate of return for stocks. It also includes 3 additional practice problems calculating portfolio beta, expected return and standard deviation, and required return for an individual stock.

Uploaded by

Lưu Gia Bảo
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Student Name: Luu Gia Bao

Student ID: 1567033

HW Assignment for Week 3:

I. Textbook Problems:
1. Problem 8-1

Answer:
Expected return = (0.1(-0.30) + 0.1(-0.14) + 0.3(0.11) + 0.3(0.20) + 0.2(0.45)
= 13.90%
Standard deviation = [(0.1(-0.30 - 0.139)2 + 0.1(-0.14 - 0.139)2 + 0.3(0.11 - 0.139)2 +0 .
3(0.20 - 0.139)2 + 0.2(0.45 - 0.139)2]1/2
= 21.86%
Coefficient of variation = Standard deviation/ Expected return
= 21.86%/13.90%
= 1.57
Sharpe ratio = (Expected return – Risk-free rate)/Standard deviation
= (13.90% - 2%)/21.86%
= 0.54

2. Problem 8-2
PORTFOLIO BETA: An individual has $20,000 invested in a stock with a beta of
0.6 and
another $75,000 invested in a stock with a beta of 2.5. If these are the only two
investments
in her portfolio, what is her portfolio’s beta?

Answer:
Total investment = $20,000 + $75,000 = $95,000
Weight of stock with a beta of 0.6: $20,000/$95,000 = 0.21
Weight of stock with a beta of 2.5: $75,000/$95,000 = 0.79

Portfolio’s beta = (0.21 x 0.6) + (0.79 x 2,5)


= 2.10

3. Problem 8-3
REQUIRED RATE OF RETURN Assume that the risk-free rate is 5.5% and the
required return on the market is 12%. What is the required rate of return on a
stock with a beta of 2?
Answer:
Required return on stock = risk-free rate + (market risk premium) (stock beta)
= 5.5% + (12%-5.5%) x 2
= 18.5 %
4. Problem 8-7

Answer:
Total investment: $4,820,000
Weight of stock A = $460,000 / $4,820,000 = 0.09543569 = 0.096
Weight of stock B = $500,000 / $4,820,000 = 0.1037344 = 0.104
Weight of stock C = $1,260,000 / $4,820,000 = 0.261410788 = 0.261
Weight of stock D = $2,600,000/ $4,820,000 = 0.539419 = 0.539

Portfolio’s beta = (0.096 x 1.50) + (0.104 x -0.5) + (0.261 x 1.25) + (0.539 x 0.75)
= 0.8225 = 0.822
Fund’s required rate of return = Risk-free rate + (Market premium) x Portfolio’s
beta
= 4% + (8%-4%) x 0.822
= 7.288%

Additional Problems:
Problem 1:
 You invest in a portfolio of 5 stocks with an equal investment in each one. The betas
of the 5 stocks are as follows: .75, -1.2, .90, 1.3, 1.5. The risk free return is 4% and
the market return is 9%.
A. Compute the beta of the portfolio
Weight of stock A = Weight of stock B = Weight of stock C = Weight of stock D =
Weight of stock E = 0.2
Portfolio’s beta = 0.2 x (0.75 -1.2 + 0.90 + 1.3 + 1.5)
= 0.65
B. Compute the required return of the portfolio
Portfolio’s required return = Risk-free rate + (market premium) x portfolio’s beta
= 4% + (9% - 4%) x 0.2
= 5%
 Problem 2:
You are given the following probability distribution for a stock:

Pr.       Outcome           
.4            -4%
.6            12%
 A. Compute the expected return
Answer:
Expected return = (0.4 x -0.04) + (0.6 x 0.12)
= 5.6%
B. Compute the standard deviation
Answer:
Standard deviation = [0.4(-0.04 – 0.056)2 + 0.6(0.12-0.056)2]1/2
= 7.84%
C. Presuming the stock returns are normally distributed, what do these results
indicate?
Answer:
These results indicate that there is no big difference between the expected return and
actual return of this stock because the standard deviation is quite low, 7.84%. It means
that the actual return of this stock is very close to the expected return of 5.6% and this
stock is not risky.
Problem 3:
 A stock has a beta of 0.8. The market return is 14% and the risk free return is 3%.
Compute the required return for this stock.
Answer:
Required return on stock = risk-free rate + (market risk premium) (stock beta)
= 3% + (14%-3%) x 0.8
= 11.8%

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