Stock Investment Amount S 200000 S 300000 500000 1000000 Bet

Stock Investment Amount S 200,000 S 300,000 500,000 $1,000,000 Beta 1.50 0.50 1.25 0.75 The market\'s required return is 13.25%, and the risk-free rate is 6.00%. Calculate the required return rate for a portfolio, which holds 4 stocks in the following table. A) 10.77%

Solution

Required rate of investment 1 using CPAM model = risk free rate + beta ( market return - risk free rate)

Required rate of investment 1 = 0.06 + 1.5 ( 0.1325 - 0.06)

Required rate of investment 1 = 0.16875 or 16.875%

Required rate of investment 2 = 0.06 + -0.5 ( 0.1325 - 0.06)

Required rate of investment 2 = 0.02375 or 2.375%

Required rate of investment 3 = 0.06 + 1.25 ( 0.1325 - 0.06)

Required rate of investment 3 = 0.150625 or 15.0625%

Required rate of investment 4 = 0.06 + 0.75 ( 0.1325 - 0.06)

Required rate of investment 4 = 0.114375 or 11.4375%

Total investment = 200,000 + 300,000 + 500,000 + 1,000,000 = 2,000,000

Weight of investment 1 = 200,000 / 2,000,000 = 0.1

Weight of investment 2 = 300,000 / 2,000,000 = 0.15

Weight of investment 3 = 500,000 / 2,000,000 = 0.25

Weight of investment 4 = 1,000,000 / 2,000,000 = 0.5

Required return of portfolio = 0.1 * 0.16875 + 0.15 * 0.02375 + 0.25 * 0.150625 + 0.5 * 0.114375

Required return of portfolio = 0.016875 + 0.003563 + 0.037656 + 0.057188

Required return of portfolio = 0.11528 or 11.53%