Both assets B and C plot on the SML.Asset B has a beta of 1.3 and an expected return of 13.1%.Asset C has a beta of .50 and an expected return of 7.50%.The risk-free rate is 4%.If you wish to hold a portfolio consisting of assets B and C,and have a portfolio beta equal to 1.0,what is the expected return of the portfolio?
A)4.0%
B)7.5%
C)11.0%
D)13.1%

Question

Quizplus · Accepted Answer

We know that the portfolio beta should be 1.0, so we can set up the following equation:
1.0 = wB(1.3) + wC(0.5)
We also know that the weights must add up to 1:
wB + wC = 1
Using these two equations, we can solve for the weights:
wB = 0.833, wC = 0.167
Now we can use these weights to find the expected return of the portfolio:
Expected return = wB(E(RB)) + wC(E(RC))
Expected return = 0.833(13.1%) + 0.167(7.5%)
Expected return = 11.0%

Both Assets B and C Plot on the SML