Exercise 1: Suppose the risk premium of the market portfolio is 8%, and

we estimate the beta of Delta as βD = 1.2. The risk premium predicted for
the stock is therefore 1.2 times the market risk premium,
or 1.2 × 8% = 9.6%. What is the expected rate of return on Delta? The risk
free rate is equal to 3%.

Solution:

Market risk premium 8%

\beta D 1.2

E(R_D) = 3%+1.2*8%
E(R_D) 12.600%

Exercise 2: Suppose the risk premium on the market portfolio is estimated

at 8% with a standard deviation of 22%. What is the risk premium on a
portfolio invested 25% in GE with a beta of .8 and 75% in Delta with a beta
of 1.2?

Solution:

The beta of the portfolio:

\Beta_P = w*\Beta_Delta + (1-w)*\Beta_GE

\Beta_P = 0.75*1.2 + (1-0.75)*0.8
\Beta_P 1.1

E(rP) = rf + \Beta_P * (E(rM) -rf)

we know (E(rM) -rf) = Market risk premium

and
E(rP) -rf = Risk premium on the portfolio

E(rP) - rf = \Beta_P * (E(rM) -rf)

E(rP) - rf = 1.1 * 8
E(rP) - rf 8.8
8.80%
Exercise 3: Suppose the return on the market is expected to be 14%, a
stock has a beta of 1.2, and the T-bill rate is 6%.
Calculatle the expected return of the stock?
Solution:

E(r) = rf + \Beta * (E(rM) -rf)

E(r) = 6% + 1.2 * (14% -6%)
E(r) 15.6
15.60%

Estimating the index model

Monthly Rates of Return

-----------------Rates of Return---
Month Ford Honda
Dec-08 -18.34 23.02
Nov-08 -14.87 -25.44
Oct-08 22.83 -26.04
Sep-08 -57.88 -13.77
Aug-08 16.59 -29.61
Jul-08 -7.08 -4.92
Jun-08 -0.21 -11.01
May-08 -29.26 -15.56
Apr-08 -17.68 -6.48
Mar-08 44.41 8.78
Feb-08 -12.40 -9.60
Jan-08 -1.66 -3.13
Dec-07 -1.34 11.18
Nov-07 -10.39 -5.59
Oct-07 -15.33 -6.86
Sep-07 4.48 -0.25
Aug-07 8.71 8.79
Jul-07 -8.23 -4.78
Jun-07 -9.66 -6.32
May-07 12.95 -0.24
Apr-07 3.73 1.87
Mar-07 1.90 -0.08
Feb-07 -0.25 -0.73
Jan-07 -2.71 -0.16
Dec-06 8.26 6.70
Nov-06 -7.63 0.52
Oct-06 -1.81 0.61
Sep-06 2.35 3.60
Aug-06 -3.35 6.11
Jul-06 25.49 -1.41
Jun-06 -3.05 4.63
May-06 -3.23 5.18
Apr-06 3.04 6.39
Mar-06 -11.42 1.23
Feb-06 -0.13 6.04
Jan-06 -7.14 -3.43
Dec-05 12.45 12.61
Nov-05 -5.08 -4.31
Oct-05 -2.24 -7.52
Sep-05 -14.54 -7.77
Aug-05 -1.15 -5.37
Jul-05 -7.12 -8.88
Jun-05 5.77 5.44
May-05 2.65 4.91
Apr-05 9.50 2.25
Mar-05 -18.74 -7.84
Feb-05 -10.38 -15.28
Jan-05 -3.97 -0.24
Dec-04 -9.33 -3.02
Nov-04 3.26 1.97
Oct-04 8.75 -1.17
Sep-04 -6.48 0.08
Aug-04 -0.46 1.51
Jul-04 -4.12 1.69
Jun-04 -5.30 2.39
May-04 5.36 -0.25
Apr-04 -3.34 0.00
Mar-04 13.92 -3.19
Feb-04 -1.28 0.00
Jan-04 -5.44 0.56
-----Rates of Return------------- ---------Excess rates of return---------
Toyota S&P T-bills Ford Honda Toyota S&P
-2.95 -8.31 0.09 -18.43 22.93 -3.04 -8.40
3.71 0.97 0.02 -14.89 -25.46 3.69 0.95
-17.07 -7.04 0.08 22.75 -26.12 -17.15 -7.12
-11.32 -16.67 0.15 -58.03 -13.92 -11.47 -16.82
-4.23 -9.54 0.12 16.47 -29.73 -4.35 -9.66
4.11 1.40 0.15 -7.23 -5.07 3.96 1.25
-8.46 -1.07 0.17 -0.38 -11.18 -8.63 -1.24
-7.89 -8.52 0.17 -29.43 -15.73 -8.06 -8.69
0.54 1.34 0.17 -17.85 -6.65 0.37 1.17
0.60 4.60 0.17 44.24 8.61 0.43 4.43
-7.06 -1.03 0.13 -12.53 -9.73 -7.19 -1.16
0.21 -2.79 0.21 -1.87 -3.34 0.00 -3.00
2.03 -6.31 0.27 -1.61 10.91 1.76 -6.58
-5.58 -1.47 0.34 -10.73 -5.93 -5.92 -1.81
-1.74 -4.19 0.32 -15.65 -7.18 -2.06 -4.51
-2.07 1.03 0.32 4.16 -0.57 -2.39 0.71
1.02 3.46 0.42 8.29 8.37 0.60 3.04
-4.10 0.88 0.4 -8.63 -5.18 -4.50 0.48
-4.17 -3.53 0.4 -10.06 -6.72 -4.57 -3.93
4.24 -1.87 0.41 12.54 -0.65 3.83 -2.28
-0.54 2.95 0.44 3.29 1.43 -0.98 2.51
-5.26 3.99 0.43 1.47 -0.51 -5.69 3.56
-4.07 0.78 0.38 -0.63 -1.11 -4.45 0.40
1.38 -2.40 0.44 -3.15 -0.60 0.94 -2.84
-1.88 1.11 0.4 7.86 6.30 -2.28 0.71
11.88 0.35 0.42 -8.05 0.10 11.46 -0.07
1.74 1.58 0.41 -2.22 0.20 1.33 1.17
8.36 2.75 0.41 1.94 3.19 7.95 2.34
0.52 2.28 0.42 -3.77 5.69 0.10 1.86
2.97 1.78 0.4 25.09 -1.81 2.57 1.38
0.60 0.05 0.4 -3.45 4.23 0.20 -0.35
-2.60 -0.17 0.43 -3.66 4.75 -3.03 -0.60
-8.32 -3.37 0.36 2.68 6.03 -8.68 -3.73
7.56 0.89 0.37 -11.79 0.86 7.19 0.52
1.90 1.31 0.34 -0.47 5.70 1.56 0.97
3.05 0.22 0.35 -7.49 -3.78 2.70 -0.13
-0.87 2.09 0.32 12.13 12.29 -1.19 1.77
8.13 -0.50 0.31 -5.39 -4.62 7.82 -0.81
4.25 4.12 0.27 -2.51 -7.79 3.98 3.85
0.48 -2.65 0.29 -14.83 -8.06 0.19 -2.94
13.59 0.50 0.3 -1.45 -5.67 13.29 0.20
8.07 -1.17 0.24 -7.36 -9.12 7.83 -1.41
6.12 3.59 0.23 5.54 5.21 5.89 3.36
-0.31 -0.09 0.24 2.41 4.67 -0.55 -0.33
-1.37 3.01 0.21 9.29 2.04 -1.58 2.80
-2.25 -2.08 0.21 -18.95 -8.05 -2.46 -2.29
-3.74 -1.99 0.16 -10.54 -15.44 -3.90 -2.15
-0.53 1.93 0.16 -4.13 -0.40 -0.69 1.77
-4.50 -2.40 0.16 -9.49 -3.18 -4.66 -2.56
9.59 2.86 0.15 3.11 1.82 9.44 2.71
-3.71 4.35 0.11 8.64 -1.28 -3.82 4.24
1.59 1.18 0.11 -6.59 -0.03 1.48 1.07
-2.97 0.89 0.11 -0.57 1.40 -3.08 0.78
-1.01 0.15 0.1 -4.22 1.59 -1.11 0.05
-1.99 -3.30 0.08 -5.38 2.31 -2.07 -3.38
12.81 1.79 0.06 5.30 -0.31 12.75 1.73
-1.17 1.62 0.08 -3.42 -0.08 -1.25 1.54
-1.74 -1.98 0.09 13.83 -3.28 -1.83 -2.07
8.34 -1.38 0.06 -1.34 -0.06 8.28 -1.44
4.11 1.28 0.07 -5.51 0.49 4.04 1.21
Beta 5 years 1.81 0.86 0.71 1.00

"Compute the values of the beta"