Assume the CAPM is the correct asset pricing model,and the risk-free rate of return is 6% and the market has an expected return and a standard deviation of 16% and 0.10%,respectively.An investor has a portfolio consisting of equal amounts in assets A and B.Asset A has an expected return of 8%.If the portfolio has an expected return of 10%,what is the covariance between asset B and the market portfolio?

A) $ 2.000 $
B) $ 3.000 $
C) $ 6.000 $
D)$ 7.000 $

Question

Assume the CAPM is the correct asset pricing model,and the risk-free rate of return is 6% and the market has an expected return and a standard deviation of 16% and 0.10%,respectively.An investor has a portfolio consisting of equal amounts in assets A and B.Asset A has an expected return of 8%.If the portfolio has an expected return of 10%,what is the covariance between asset B and the market portfolio?

A) $ 2.000 $
B) $ 3.000 $
C) $ 6.000 $
D)$ 7.000 $

Quizplus · Accepted Answer

Given that the portfolio has a 10% return and is composed of 50% in asset A and 50% in asset B,then we know that (0.5)(8%)+ (0.5)E(R_b)= 10%,where E(R_b)is the expected return of asset B.Solving this equation gives a value for E(R_b)of 12%.We can now use the CAPM to determine what beta is required to give an asset an expected return of 12%;that is,0.12 = 0.06 + F1F1F1S1F1F1F10(0.16 - 0.06),which can be solved to obtain a F1F1F1S1F1F1F10 value of 0.6.Using equation 8.2,page 240,we know that F1F1F1S1F1F1F10_i = cov_im/F1F1F1S1F1F1F10_m,or 0.6 = cov_im/0.10,which can be solved to obtain a cov_im value of 6.00.

Assume the CAPM Is the Correct Asset Pricing Model,and the Risk-Free