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FINA3080 Assignment 2 Q

This document provides instructions and questions for an assignment on capital asset pricing model (CAPM). It includes: 1. A multiple choice question about the expected rate of return for a stock with a beta of 1 given the expected market return is 12%. 2. A multiple choice question comparing the expected rate of return, volatility, and systematic risk for two stocks with different betas. 3. An example calculation question to determine the market price of a stock if its beta doubles and other variables remain unchanged.

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147 views2 pages

FINA3080 Assignment 2 Q

This document provides instructions and questions for an assignment on capital asset pricing model (CAPM). It includes: 1. A multiple choice question about the expected rate of return for a stock with a beta of 1 given the expected market return is 12%. 2. A multiple choice question comparing the expected rate of return, volatility, and systematic risk for two stocks with different betas. 3. An example calculation question to determine the market price of a stock if its beta doubles and other variables remain unchanged.

Uploaded by

Jason Leung
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© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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FINA3080 Assignment 2

(due 11:59 pm, Nov 3, 2020)

Ch. 7

1. Here are data on two companies. The T-bill rate is 4% and the market risk
premium is 8%.

Company ABC XYZ


Forecast Return 20% 14%
Standard Deviation of returns 7% 10%
Beta 1.45 1.1

What should be the expected rate of return for each company, according to the
capital asset pricing model (CAPM)?

2. (Multiple Choice Question) What is the expected rate of return for a stock that
has a beta of 1 if the expected return on the market is 12%?

(A) 12%.
(B) More than 12%.
(C) Cannot be determined without the risk-free rate.

3. (Multiple Choice Question) A, Inc., stock has a beta of 1.8 and R, Inc., stock has a
beta of 0.84. Which of the following statements is the most accurate?

(A) The equilibrium expected rate of return is higher for A than for R.
(B) The stock of A has higher volatility than R.
(C) The stock of R has more systematic risk than that of A.

4. The market price of stock is $50. Its expected rate of return is 10%. The risk-free
rate is 7%, and the market risk premium is 8%. What will the market price of the
security be if its beta doubles (and all other variables remain unchanged)?
Assume the stock is expected to pay a constant dividend in perpetuity. Note:
Stock Price =Dividend/Discount rate for perpetual constant dividend, discount
rate can be estimated based on expected return. (Q10)
5. Consider the following table, which gives a security analyst’s expected return on
two stocks for two particular market returns: (Q12)

Market Return Aggressive Stock Defensive Stock


5% 2.5% 4%
20% 30% 12%

(a) What are the betas of the two stocks? Hint: Beta can be estimated by changes
of stock returns/change of market returns.
(b) What is the expected rate of return on each stock if the market returns is
equally likely to be 5% or 20%?
(c) If the T-bill rate is 6%, calculate the alphas for the 2 stocks.

6. (Assume the risk-free rate is 4% and the expected rate of return on the market is
10%. Use CAPM for this question.)
A share of stock is now selling for $80. It will pay a dividend of $7 per share at the
end of the year. Its beta is 1. What must investors expect the stock to sell for at
the end of the year? (Q21)

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