LATIHAN SOAL SESI 3

1. You want your portfolio beta to be 1.20. Currently, your portfolio consists of $100
invested in stock A with a beta of 1.4 and $300 in stock B with a beta of .6. You have
another $400 to invest and want to divide it between an asset with a beta of 1.6 and a
risk-free asset. How much should you invest in the risk-free asset?
a. $0
b. $140
c. $200
d. $320
e. $400

Difficulty level: Medium

Topic : Analyzing a Portfolio

Stock A = 100
Beta = 1.4

Stock B = 300
Beta = 0.6

Stock C + Risk free asset = 400 + ( 50% x 100 ) + ( 50% x 300 ) + ( 50% x 400)
= 400 + 50 + 150 + 200
= 800
Beta = 1.6

1.20 = (100/800)(1.4) + (300/800)(0.6) + (X)(1.6)

1.20 = 0.175 + 0.225 + 1.6X
1.20 – 0.175 – 0.225 = 1.6X
0.8 = 1.6X
0.5 = X = 50%

(100/800)(1.4) + (300/800)(0.6) + (400/800)(1.6) = 1.20

0.175 + 0.225 + 0.8 = 1.20
1.20 = 1.20
 2. You have a $1,000 portfolio which is invested in stocks A and B plus a risk-free asset.
$400 is invested in stock A. Stock A has a beta of 1.3 and stock B has a beta of .7. How
much needs to be invested in stock B if you want a portfolio beta of .90?
a. $0
b. $268
c. $482
d. $543
e. $600

Difficulty level: Medium

Topic : Analyzing a Portfolio

Stock A = 400
Beta = 1.3

Stock B = X
Beta = 0.7

Total portfolio = 1000

Portfolio Beta = 0.90

0.90 = (400/1000)(1.3) + (X/1000)(0.7)

0.90 = 0.52 + (0.7X/1000)
0.90 – 0.52 = 0.7X/1000
0.38 = 0.7X/1000
0.38 x 1000 = 0.7X
380 = 0.7X
543 = X

3. You recently purchased a stock that is expected to earn 12% in a booming economy, 8%
in a normal economy and lose 5% in a recessionary economy. There is a 15% probability
of a boom, a 75% chance of a normal economy, and a 10% chance of a recession. What is
your expected rate of return on this stock?
a. 5.00%
b. 6.45%
c. 7.30%
d. 7.65%
e. 8.30%

Difficulty level: Medium

 Topic : Expected Return

E[R] = (0.15 x 0.12) + (0.75 x 0.08) + (0.10 x -0.05)

= 0.018 + 0.06 – 0.005
= 0.073

= 0.073 x 100%
= 7.3%

4. The Inferior Goods Co. stock is expected to earn 14% in a recession, 6% in a normal
economy, and lose 4% in a booming economy. The probability of a boom is 20% while
the probability of a normal economy is 55% and the chance of a recession is 25%. What
is the expected rate of return on this stock?
a. 6.00%
b. 6.72%
c. 6.80%
d. 7.60%
e. 11.33%

Difficulty level: Easy

Topic : Expected Return

E[R] = (0.20 x -0.04) + (0.55 x 0.06) + (0.25 x 0.14)

= -0.008 + 0.033 + 0.035
= 0.06

= 0.06 x 100%
= 6%

5. You are comparing stock A to stock B. Given the following information, which one of
these two stocks should you prefer and why?
Rate of Return if
 State of Probability of State Occurs__
Economy State of Economy Stock A Stock B
Boom 60% 9% 15%
Recession 40% 4% -6%

a. Stock A; because it has an expected return of 7% and appears to be more risky.

b. Stock A; because it has a higher expected return and appears to be less risky than
stock B.
c. Stock A; because it has a slightly lower expected return but appears to be significantly
less risky than stock B.
d. Stock B; because it has a higher expected return and appears to be just slightly more
risky than stock A.
e. Stock B; because it has a higher expected return and appears to be less risky than stock
A.

Difficulty level: Medium

Topic : Expected Return

E[R]A = (0.60 x 0.09) + (0.40 x 0.04)

= 0.054 + 0.016
= 0.07 x 100% = 7%

E[R]B = (0.60 x 0.15) + (0.40 x -0.06)

= 0.09 – 0.024
= 0.066 x 100% = 6.6%

Should select stock A because it has a higher expected return and also appears to be less
risky.

6. Zelo, Inc. stock has a beta of 1.23. The risk-free rate of return is 4.5% and the market rate
of return is 10%. What is the amount of the risk premium on Zelo stock?
a. 4.47%
b. 5.50%
c. 5.54%
d. 6.77%
e. 12.30%

Difficulty level: Medium

Topic : Risk Premium

Risk Premium = 1.23 x (0.10 – 0.045)

 = 1.23 x 0.055
= 0.0677 x 100% = 6.77%

7. If the economy booms, RTF, Inc. stock is expected to return 10%. If the economy goes
into a recessionary period, then RTF is expected to only return 4%. The probability of a
boom is 60% while the probability of a recession is 40%. What is the variance of the
returns on RTF, Inc. stock?
a. .000200
b. .000760
c. .000864
d. .001594
e. .029394

Difficulty level: Medium

Topic : Variance

E[R] = (0.60 x 0.10) + (0.40 x 0.04)

= 0.06 + 0.016
= 0.076

Var. = 0.60(0.10 – 0.076)2 + 0.40(0.040 – 0.076)2

= 0.0003456 + 0.0005184
= 0.000864

8. The rate of return on the common stock of Flowers by Flo is expected to be 14% in a
boom economy, 8% in a normal economy, and only 2% in a recessionary economy. The
probabilities of these economic states are 20% for a boom, 70% for a normal economy,
and 10% for a recession. What is the variance of the returns on the common stock of
Flowers by Flo?
a. .001044
b. .001280
c. .001863
d. .002001
e. .002471

Difficulty level: Medium

Topic : Variance

E[R] = (0.20 x 0.14) + (0.70 x 0.08) + (0.10 x 0.02)

= 0.028 + 0.056 + 0.002
 = 0.086

Var. = 0.20(0.14 - 0.086)2 + 0.70(0.08 - 0.086)2 + 0.10(0.02 - 0.086)2

= 0.0005832 + 0.0000252 + 0.0004356
= 0.001044

9. Kurt’s Adventures, Inc. stock is quite cyclical. In a boom economy, the stock is expected
to return 30% in comparison to 12% in a normal economy and a negative 20% in a
recessionary period. The probability of a recession is 15%. There is a 30% chance of a
boom economy. The remainder of the time, the economy will be at normal levels. What is
the standard deviation of the returns on Kurt’s Adventures, Inc. stock?
a. 10.05%
b. 12.60%
c. 15.83%
d. 17.46%
e. 25.04%

Difficulty level: Challenge

Topic : Standard Deviation

E[R] = (0.30 x 0.30) + (0.55 x 0.12) + (0.15 x -0.20)

= 0.09 + 0.066 - 0.03
= 0.126

Var. = 0.30(0.30 - 0.126)2 + 0.55(0.12 - 0.126)2 + 0.15(-0.20 - 0.126)2

= 0.0090828 + 0.0000198 + 0.0159414
= 0.025044

Standard deviation = √0.025044 = 0.15825 x 100%

= 15.83%

10. What is the standard deviation of the returns on a stock given the following information?

State of Probability of Rate of Return

Economy State of Economy if State Occurs
Boom 10% 16%
Normal 60% 11%
 Recession 30% -8%
a. 5.80%
b. 7.34%
c. 8.38%
d. 9.15%
e. 9.87%

Difficulty level: Challenge

Topic : Standard Deviation

E[R] = (0.10 x 0.16) + (0.60 x 0.11) + (0.30 x -0.08)

= 0.016 + 0.066 - 0.024
= 0.058

Var. = 0.10(0.16 – 0.058)2 + 0.60(0.11 - 0.058)2 + 0.30(-0.08 - 0.058)2

= 0.0010404 + 0.0016224 + 0.0057132
= 0.008376

Standard deviation = √0.008376 = 0.09152 x 100%

= 9.15%

11. You have a portfolio consisting solely of stock A and stock B. The portfolio has an
expected return of 10.2%. Stock A has an expected return of 12% while stock B is
expected to return 7%. What is the portfolio weight of stock A?
a. 46%
b. 54%
c. 58%
d. 64%
e. 70%

Difficulty level: Medium

Topic : Portfolio Weight

0.102 = (0.12 x X) + (0.07 x (1 - X))

0.102 = 0.12X + 0.07 - 0.07X
0.102 – 0.07 = 0.05X
0.032 = 0.05X
X = 0.64 x 100%
= 64%
 12. You own the following portfolio of stocks. What is the portfolio weight of stock C?

Number Price
Stock of Shares per Share
A 100 $22
B 600 $17
C 400 $46
D 200 $38
a. 30.8%
b. 37.4%
c. 42.3%
d. 45.2%
e. 47.9%

Difficulty level: Medium

Topic : Portfolio Weight

Portfolio weight = (400 x 46) / ((100 x 22) + (600 x 17) + (400 x 46) + (200 x 38))
= 18400 / 38400
= 0.479 x 100%
= 47.9%

13. You own a portfolio with the following expected returns given the various states of the
economy. What is the overall portfolio expected return?

State of Probability of Rate of Return

Economy State of Economy if State Occurs
Boom 15% 18%
Normal 60% 11%
Recession 25% -10%
a. 6.3%
 b. 6.8%
c. 7.6%
d. 10.0%
e. 10.8%

Difficulty level: Medium

Topic : Portfolio Expected Return

E[R] = (0.15 x 0.18) + (0.60 x 0.11) + (0.25 x -0.10)

= 0.027 + 0.066 – 0.025
= 0.068 x 100%
= 6.8%

14. What is the expected return on a portfolio which is invested 20% in stock A, 50% in
stock B, and 30% in stock C?

State of Probability of Returns if State Occurs

Economy State of Economy Stock A Stock B Stock C
Boom 20% 18% 9% 6%
Normal 70% 11% 7% 9%
Recession 10% -10% 4% 13%

a. 7.40%
b. 8.25%
c. 8.33%
d. 9.45%
e. 9.50%

Difficulty level: Challenge

Topic : Portfolio Expected Return

E[R]Boom = (0.20 x 0.18) + (0.50 x 0.09) + (0.30 x 0.06)

= 0.036 + 0.045 + 0.018
= 0.099

E[R]Normal = (0.20 x 0.11) + (0.50 x 0.07) + (0.30 x 0.09)

= 0.022 + 0.035 + 0.027 = 0.084

E[R]Bust = (0.20 x -0.10) + (0.50 x 0.04) + (0.30 x 0.13)

= -0.020 + 0.020 + 0.039 = 0.039
E[R]Portfolio = (0.20 x 0.099) + (0.70 x 0.084) + (0.10 x 0.039)
= 0.02376 + 0.0588 + 0.0039
= 0.0825 x 100% = 8.25%

15. What is the expected return on this portfolio?

Expected Number Stock

Stock Return of Shares Price
A 8% 520 $25
B 15% 300 $48
C 6% 250 $26
a. 9.50%
b. 9.67%
c. 9.78%
d. 10.59%
e. 10.87%

Difficulty level: Medium

Topic : Portfolio Expected Return

Portfolio value = (520 x 25) + (300 x 48) + (250 x 26)

= 13000 + 14400 + 6500
= 33900

E[R] = (13000 / 33900 x 0.08) + (14400 / 33900 x 0.15) + (6500 / 33900 x 0.06)
= 0.03068 + 0.06372 + 0.01150
= 00.1059 x 100% = 10.59%

16. What is the expected return on a portfolio comprised of $3,000 in stock K and $5,000 in
stock L if the economy is normal?

State of Probability of Returns if State Occurs

Economy State of Economy Stock K Stock L
Boom 20% 14% 10%
Normal 80% 5% 6%

a. 3.75%
b. 5.25%
c. 5.63%
d. 5.88%
 e. 6.80%

Difficulty level: Medium

Topic : Portfolio Expected Return

E[R] = (3000 / (3000 + 5000) x 0.05) + (5000 / (3000 + 5000) x 0.06)

= 0.01875 + 0.0375
= 0.05625 x 100% = 5.63%

17. What is the expected return on a portfolio comprised of $4,000 in stock M and $6,000 in
stock N if the economy enjoys a boom period?

State of Probability of Returns if State Occurs

Economy State of Economy Stock M Stock N
Boom 10% 18% 10%
Normal 75% 7% 8%
Recession 15% -20% 6%
a. 6.4%
b. 6.8%
c. 10.4%
d. 13.2%
e. 14.0%

Difficulty level: Medium

Topic : Portfolio Expected Return

E[R] = ((4000 / (4000 + 6000) x 0.18) + (6000 / (4000 + 6000) x 0.10)

= 0.072 + 0.06
= 0.132 x 100%
= 13.2%

18. What is the portfolio variance if 30% is invested in stock S and 70% is invested in stock
T?

State of Probability of Returns if State Occurs

Economy State of Economy Stock S Stock T
 Boom 40% 12% 20%
Normal 60% 6% 4%
a. .002220
b. .004056
c. .006224
d. .008080
e. .098000

Difficulty level: Challenge

Topic : Portfolio Variance

E[R]Boom = (0.30 x 0.12) + (0.70 x 0.20)

= 0.036 + 0.14
= 0.176

E[R]Normal = (0.30 x 0.06) + (0.70 x 0.04)

= 0.018 + 0.028
= 0.046

E[R]Portfolio = (0.40 x 0.176) + (0.60 x 0.046)

= 0.0704 + 0.0276
= 0.098

VarPortfolio = (0.40 x (0.176 – 0.098)2) + (0.60 x (0.046 – 0.098)2)

= 0.0024336 + 0.0016224
= 0.004056

19. What is the variance of a portfolio consisting of $3,500 in stock G and $6,500 in stock H?

State of Probability of Returns if State Occurs

Economy State of Economy Stock G Stock H
Boom 15% 15% 9%
Normal 85% 8% 6%
a. .000209
b. .000247
c. .002098
d. .037026
e. .073600

Difficulty level: Challenge

Topic : Portfolio Variance
E[R]Boom = (3500 / (3500 + 6500) x 0.15)) + (6500 / (3500 + 6500) x 0.09)
= 0.0525 + 0.0585
= 0.111

E[R]Normal = (3500 / (3500 + 6500) x 0.08)) + (6500 / (3500 + 6500) x 0.06)

= 0.028 + 0.039
= 0.067

E[R]Portfolio = (0.15 x 0.111) + (0.85 x 0.067)

= 0.01665 + 0.05695
= 0.0736

VarPortfolio = (0.15 x (0.111 - 0.0736)2) + (0.85 x (0.067 - 0.0736)2)

= 0.000209814 + 0.000037026
= 0.00024684
= 0.000247

20. What is the standard deviation of a portfolio that is invested 40% in stock Q and 60% in
stock R?

State of Probability of Returns if State Occurs

Economy State of Economy Stock Q Stock R
Boom 25% 18% 9%
Normal 75% 9% 5%
a. 0.7%
b. 1.4%
c. 2.6%
d. 6.8%
e. 8.1%

Difficulty level: Challenge

Topic : Portfolio Standard Deviation
E[R]Boom = (0.40 x 0.18) + (0.60 x 0.09)
= 0.072 + 0.054
= 0.126

E[R]Normal = (0.40 x 0.09) + (0.60 x 0.05)

= 0.036 + 0.03
= 0.066

E[R]Portfolio = (0.25 x 0.126) + (0.75 x 0.066)

= 0.0315 + 0.0495
= 0.081

VarPortfolio = (0.25 x (0.126 - 0.081)2) + (0.75 x (0.066 - 0.081)2)

= 0.00050625 + 0.00016875
= 0.000675

Standard Deviation = √.000675 = 0.02598

= 0.026 x 100%
= 2.6%

21. What is the standard deviation of a portfolio which is comprised of $4,500 invested in
stock S and $3,000 in stock T?
State of Probability of Returns if State Occurs
Economy State of Economy Stock S Stock T
Boom 10% 12% 4%
Normal 65% 9% 6%
Recession 25% 2% 9%
a. 1.4%
b. 1.9%
c. 2.6%
d. 5.7%
e. 7.2%

Difficulty level: Challenge

Topic : Portfolio Standard Deviation

E[R]Boom = (4500 / (4500 + 3000) x 0.12)) + (3000 / (4500 + 3000) x 0.04)

= 0.072 + 0.016
 = 0.088

E[R]Normal = (4500 / (4500 + 3000) x 0.09)) + (3000 / (4500 + 3000) x 0.06)

= 0.054 + 0.024
= 0.078

E[R]Bust = (4500 / (4500 + 3000) x 0.02)) + (3000 / (4500 + 3000) x 0.09)

= 0.012 + 0. 036
= 0.048

E[R]Portfolio = (0.10 x 0.088) + (0.65 x 0.078) + (0.25 x 0.048)

= 0.0088 + 0.0507 + 0.012
= 0.0715

VarPortfolio = (0.10 x (0.088 - 0.0715)2) + (0.65 x (0.078 - 0.0715)2) + (0.25 x (0.048 -

0.0715)2)
= 0.000027225 + 0.000027463 + 0.000138063
= 0.000192751

Standard Deviation = √.000192751 = 0.01388

= 0.014 x 100%
= 1.4%

22. What is the standard deviation of a portfolio which is invested 20% in stock A, 30% in
stock B and 50% in stock C?
State of Probability of Returns if State Occurs
Economy State of Economy Stock A Stock B Stock C
Boom 10% 15% 10% 5%
Normal 70% 9% 6% 7%
Recession 20% -14% 2% 8%
a. 0.6%
b. 0.9%
c. 1.8%
d. 2.2%
e. 4.9%

Difficulty level: Challenge

Topic : Portfolio Standard Deviation

E[R]Boom = (0.20 x 0.15) + (0.30 x 0.10) + (0.50 x 0.05)

= 0.03 + 0.03 + 0.025
 = 0.085

E[R]Normal = (0.20 x 0.09) + (0.30 x 0.06) + (0.50 x 0.07)

= 0.018 + 0.018 + 0.035
= 0.071

E[R]Bust = (0.20 x -0.14) + (0.30 x 0.02) + (0.50 x 0.08)

= -0.028 + 0.006 + 0.04
= 0.018

E[R]Portfolio = (0.10 x 0.085) + (0.70 x 0.071) + (0.20 0.018)

= 0.0085 + 0.0497 + 0.0036
= 0.0618

VarPortfolio = (0.10(0.085 - 0.0618)2) + (0.70(0.071 - 0.0618)2) + (0.20(0.018 - 0.0618)2)

= 0.000053824 + 0.000059248 + 0.000383688
= 0.00049676

Standard Deviation = √0.00049676 = 0.022288

= 2.2 x 100%
= 2.2%
23. What is the beta of a portfolio comprised of the following securities?

Amount Security
Stock Invested Beta
A $2,000 1.20
B $3,000 1.46
C $5,000 .72
a. 1.008
b. 1.014
c. 1.038
d. 1.067
e. 1.127

Difficulty level: Medium

Topic : Beta

ValuePortfolio = 2000 + 3000 + 5000

= 10,000

Beta = (2000 / 10000 x 1.20) + (3000 / 10000 x 1.46) + (5000 / 10,000 x 0.72)
 = 0.24 + 0.438 + 0.36
= 1.038

24. Your portfolio is comprised of 30% of stock X, 50% of stock Y, and 20% of stock Z.
Stock X has a beta of .64, stock Y has a beta of 1.48, and stock Z has a beta of 1.04. What
is the beta of your portfolio?
a. 1.01
b. 1.05
c. 1.09
d. 1.14
e. 1.18

Difficulty level: Medium

Topic : Portfolio Beta

BetaPortfolio = (0.30 x 0.64) + (0.5 x 1.48) + (0.20 x 1.04)

= 0.192 + 0.74 + 0.208
= 1.14

25. Your portfolio has a beta of 1.18. The portfolio consists of 15% U.S. Treasury bills, 30%
in stock A, and 55% in stock B. Stock A has a risk-level equivalent to that of the overall
market. What is the beta of stock B?
a. .55
b. 1.10
c. 1.24
d. 1.40
e. 1.60

Difficulty level: Medium

Topic : Portfolio Beta

Risk free asset beta = 0

Market beta = 1

1.18 = (0.15 x 0) + (0.30 x 1.0) + (0.55 x X)

1.18 = 0 + 0.3 + 0.55X
1.18 – 0.3 = 0.55X
0.88 = 0.55X
X = 1.6
 26. You would like to combine a risky stock with a beta of 1.5 with U.S. Treasury bills in
such a way that the risk level of the portfolio is equivalent to the risk level of the overall
market. What percentage of the portfolio should be invested in Treasury bills?
a. 25%
b. 33%
c. 50%
d. 67%
e. 75%

Difficulty level: Medium

Topic : Portfolio Beta

1 = ((1 - X) x 1.5) + (X x 0)
1 = 1.5 - 1.5X
1 = -1.5X
1 – 1.5 = -1.5X
0.5 = 1.5X
X = 0.33 x 100%
X = 33%
27. The market has an expected rate of return of 9.8%. The long-term government
bond is expected to yield 4.5% and the U.S. Treasury bill is expected to yield 3.4%.
The inflation rate is 3.1%. What is the market risk premium?
a. 2.2%
b. 3.3%
c. 5.3%
d. 6.4%
e. 6.7%

Difficulty level: Medium

Topic : Market Risk Premium

Risk Premium = 9.8% - 3.4%

= 6.4%

28. The risk-free rate of return is 4% and the market risk premium is 8%. What
is the expected rate of return on a stock with a beta of 1.28?
a. 9.12%
b. 10.24%
c. 13.12%
d. 14.24%
e. 15.36%
 Difficulty level: Medium
Topic : Capital Asset Pricing Model (CAPM)

E[R] = 0.04 + (1.28 x 0.08)

= 0.1424 x 100%
= 14.24%

29. The common stock of Flavorful Teas has an expected return of 14.4%. The return on the
market is 10% and the risk-free rate of return is 3.5%. What is the beta of this stock?
a. .65
b. 1.09
c. 1.32
d. 1.44
e. 1.68

Difficulty level: Medium

Topic : Capital Asset Pricing Model (CAPM)

0.144 = 0.035 + X(0.10 - 0.035)

0.144 = 0.035 + 0.065X
0.109 = 0.065X
X = 1.68

30. The stock of Big Joe’s has a beta a 1.14 and an expected return of 11.6%. The risk-free
rate of return is 4%. What is the expected return on the market?
a. 7.60%
b. 8.04%
c. 9.33%
d. 10.67%
e. 12.16%

Difficulty level: Medium

Topic : Capital Asset Pricing Model (CAPM)

0.116 = 0.04 + 1.14(X - 0.04)

0.116 = 0.04 + 1.14X – 0.0456
0.116 + 0.0056 = 1.14X
0.1216 = 1.14X
X = 0.1067 x 100%
X = 10.67%
 31. The expected return on HiLo stock is 13.69% while the expected return on the
market is 11.5%. The beta of HiLo is 1.3. What is the risk-free rate of return?
a. 2.8%
b. 3.1%
c. 3.7%
d. 4.2%
e. 4.5%

Difficulty level: Medium

Topic : Capital Asset Pricing Model (CAPM)

0.1369 = X + 1.3(0.115 - X)
0.1369 = X + 0.1495 – 1.3X
0.3X = 0.0126
X = 0.042 x !00%
X = 4.2%
32. The stock of Martin Industries has a beta of 1.43. The risk-free rate of return is 3.6% and
the market risk premium is 9%. What is the expected rate of return on Martin Industries
stock?
a. 11.3%
b. 14.1%
c. 16.5%
d. 17.4%
e. 18.0%

Difficulty level: Medium

Topic : Capital Asset Pricing Model (CAPM)

E[R] = 0.036 + (1.43 x 0.09)

= 0.036 + 0.1287
= 0.1647 x 100%
= 16.5%

33. Which one of the following stocks is correctly priced if the risk-free rate of return is 2.5%
and the market risk premium is 8%?

Stock Beta Expected Return

A .68 8.2%
B 1.42 13.9%
C 1.23 11.8%
 D 1.31 12.6%
E .94 9.7%
a. A
b. B
c. C
d. D
e. E

Difficulty level: Medium

Topic : Capital Asset Pricing Model (CAPM)

E[R]A = 0.025 + (0.68 x 0.08) = 0.079 x 100% = 7.9%

E[R]B = 0.025 + (1.42 x 0.08) = 0.139 x 100% = 13.9%
E[R]C = 0.025 + (1.23 x 0.08) = 0.123 x 100% = 12.3%
E[R]D = 0.025 + (1.31 x 0.08) = 0.130 x 100% = 13%
E[R]E = 0.025 + (0.94 x 0.08) = 0.100 x 100% = 10%
34. Which one of the following stocks is correctly priced if the risk-free rate of return is
3.6% and the market rate of return is 10.5%?
Stock Beta Expected Return
A .85 9.2%
B 1.08 11.8%
C 1.69 15.3%
D .71 7.8%
E 1.45 12.3%
a. A
b. B
c. C
d. D
e. E

Difficulty level: Medium

Topic : Capital Asset Pricing Model (CAPM)

E[R]A = 0.036 + (0.85 x (0.105 - 0.036)) = 0.095 x 100% = 9.5%

E[R]B = 0.036 + (1.08 x (0.105 - 0.036)) = 0.111 x 100% = 11.1%
E[R]C = 0.036 + (1.69 x (0.105 - 0.036)) = 0.153 x 100% = 15.3%
E[R]D = 0.036 + (0.71 x (0.105 - 0.036)) = 0.085 x 100% = 8.5%
E[R]E = 0.036 + (1.45 x (0.105 - 0.036)) = 0.136 x 100% = 13.6%

Use the following to answer questions 35 - 37:

GenLabs has been a hot stock the last few years, but is risky. The expected returns for GenLabs
are highly dependent on the state of the economy as follows:

State of Economy Probability GenLabs Returns

Depression .05 -50%
Recession .10 -15%
Mild Slowdown .20 5%
Normal .30 15%
Broad Expansion .20 25%
Strong Expansion .15 40%

35. The expected return on GenLabs is:

a. 3.3%
b. 8.5%
c. 12.5%
d. 20.5%
e. None of the above.

Difficulty level: Medium

Topic : Expected Return

E[R] = 0.05(-0.5) + 0.10(-0.15) + 0.2(0.05) + 0.3(0.15) + 0.2(0.25) + 0.15(.40)

= 0.125 x 100%
= 12.5%

36. The variance of GenLabs returns is

a. .0207
b. .0428
c. .0643
d. .0733
e. None of the above.

Difficulty level: Challenge

Topic : Variance

Var. = 0.05(-0.50 - 0.125)2 + 0.1(-0.15 - 0.125)2 + 0.2(0.05 - 0.125)2 + 0.3(0.15 - 0.125)2 +

0.2(0.25 - 0.125)2 + 0.15(0.40 - 0.125)2
 = 0.0428

37. The standard deviation of GenLabs returns is

a. .0845
b. .2069
c. .3065
d. .3358
e. None of the above.

Difficulty level: Challenge

Topic : Standard Deviation

Var. = 0.05(-0.50 - 0.125)2 + 0.1(-0.15 - 0.125)2 + 0.2(0.05 - 0.125)2 + 0.3(0.15 - 0.125)2 +

0.2(0.25 - 0.125)2 + 0.15(0.40 - 0.125)2
= 0.0428

Standard Deviation = √0.428

= 0.2069

38. Stock A has an expected return of 20%, and stock B has an expected return of 4%.
However, the risk of stock A as measured by its variance is 3 times that of stock B. If the
two stocks are combined equally in a portfolio, what would be the portfolio's expected
return?
a. 4%
b. 12%
c. 20%
d. Greater than 20%
e. Need more information to answer.

Difficulty level: Easy

Topic : Portfolio Expected Return

E[R] = 20(0.5) + 4(0.5)

= 12 x 100%
= 12%

39. A portfolio is entirely invested into Buzz's Bauxite Boring Equity, which is expected to
return 16%, and Zum's Inc. bonds, which are expected to return 8%. 60% of the funds are
 invested in Buzz's and the rest in Zum's. What is the expected return on the portfolio?
a. 6.4%
b. 9.6%
c. 12.8%
d. 24.2%
e. Need additional information.

Difficulty level: Easy

Topic : Expected Return on a Portfolio

E[R] = 0.60(RBuzz) + 0.40(RZum)

= 0.60(16%) + 0.40(8%)
= 12.8%
40. The variance of Stock A is .004, the variance of the market is .007 and the covariance
between the two is .0026. What is the correlation coefficient?
a. .9285
b. .8542
c. .5010
d. .4913
e. .3510

Difficulty level: Challenge

Topic : Correlation Coefficient

Standard deviation A = √0.004 = 0.6325

Standard deviation Market = √0.007 = 0.8366
Correlation = 0.0026/(0.06325)(0.08366)
= 0.4913

41. A portfolio has 50% of its funds invested in Security One and 50% of its funds invested
in Security Two. Security One has a standard deviation of 6. Security Two has a standard
deviation of 12. The securities have a coefficient of correlation of 0.5. Which of the
following values is closest to portfolio variance?
a. .0027
b. .0063
c. .0095
d. .0104
e. One must have covariance to calculate expected value.

Difficulty level: Medium

Topic : Portfolio Variance
Var. = (0.5)2(0.06)2 + (0.5)2(0.12)2 + 2(0.5)(0.5)(0.5)(0.06)(0.12)
= 0.0009 + 0.0036 + 0.0018
= 0.0063

42. A portfolio has 25% of its funds invested in Security C and 75% of its funds invested in
Security D. Security C has an expected return of 8% and a standard deviation of 6.
Security D has an expected return of 10% and a standard deviation of 10. The securities
have a coefficient of correlation of 0.6. Which of the following values is closest to
portfolio return and variance?
a. .090; .0081
b. .095; .001675
c. .095; .0072
d. .100; .00849
e. Cannot calculate without the number of covariance terms.

Difficulty level: Challenge

Topic : Portfolio Return and Variance

E[R] = 0.25(0.08) + 0.75(0.10)

= 0.095

Var. = (0.25)2(0.06)2 + (0.75)2(0.10)2 + 2(0.25)(0.75)(0.06)(0.60)(0.10)

= 0.000225 + 0.005625 + 0.00135
= 0.0072

43. A portfolio contains two assets. The first asset comprises 40% of the portfolio and has a
beta of 1.2. The other asset has a beta of 1.5. The portfolio beta is
a. 1.35
b. 1.38
c. 1.42
d. 1.50
e. 1.55
 Difficulty level: Easy
Topic : Portfolio Beta

Bp = 0.4(1.2) + 0.6(1.5)
= 0.48 + 0.9
= 1.38

44. A portfolio contains four assets. Asset 1 has a beta of .8 and comprises 30% of the
portfolio. Asset 2 has a beta of 1.1 and comprises 30% of the portfolio. Asset 3 has a beta
of 1.5 and comprises 20% of the portfolio. Asset 4 has a beta of 1.6 and comprises the
remaining 20% of the portfolio. If the riskless rate is expected to be 3% and the market
risk premium is 6%, what is the beta of the portfolio?
a. 0.80
b. 1.10
c. 1.19
d. 1.25
e. 1.40

Difficulty level: Easy

Topic : Portfolio Beta

Bp = 0.3(0.8) + 0.3(1.1) + 0.2(1.5) + 0.2(1.6)

= 0.24 + 0.33 + 0.3 + 0.32
= 1.19