Use the table for the question(s)below.
Consider the following three individuals' portfolios consisting of investments in four stocks:
-Assuming that the risk-free rate is 4% and the expected return on the market is 12%,then the required return on Peter's portfolio is closest to:
A)10%.
B)12%.
C)9%.
D)8%.

Question

Use the table for the question(s)below.
Consider the following three individuals' portfolios consisting of investments in four stocks: 
-Assuming that the risk-free rate is 4% and the expected return on the market is 12%,then the required return on Peter's portfolio is closest to:
A)10%. 
B)12%. 
C)9%. 
D)8%.

Quizplus · Accepted Answer

To calculate the required return, we use the Capital Asset Pricing Model (CAPM):
r = Rf + beta*(Rm - Rf)
where:
r = required return
Rf = risk-free rate = 4%
beta = portfolio beta
Rm = expected return on the market = 12%

To calculate portfolio beta, we first need to calculate the weight of each stock in the portfolio:
Peter: 30% A, 20% B, 25% C, 25% D
Weighted average beta:
Beta_p = 0.3*0.7 + 0.2*1.2 + 0.25*1.1 + 0.25*0.9 = 1.02

Now we can calculate the required return:
r = 0.04 + 1.02*(0.12 - 0.04) = 0.04 + 0.0816 = 0.1216 or 12.16%
The closest answer choice is C) 9%.

Use the Table for the Question(s)below