FIN3000 Assignment 2 -Topic 5: Risk and Return HPU Due on: March 14, 2013 CLASS TIME (Solutions without necessary derivation cannot receive credit)

1. Please calculate the expected value and the standard deviation of returns for asset A (See below.)
Asset A Possible Outcomes | Probability | Returns (%) | Weighted Value | Pessimistic | 0.25 | 10 | 2.5% | Most Likely | 0.45 | 12 | 5.4% | Optimistic | 0.30 | 16 | 4.8% | TOTAL | 1.00 | EXPECTED RETURN | 12.7% |

j | rⱼ | rᵪ | rⱼ- rᵪ | (rⱼ- rᵪ)² | Prⱼ | (rⱼ- rᵪ)² x Prⱼ | 1 | 10% | 12.7% | -2.7% | 7.29% | 0.25 | 1.8225% | 2 | 12% | 12.7% | -0.7% | 0.49% | 0.45 | 0.2205% | 3 | 16% | 12.7% | 3.3% | 10.89% | 0.30 | 3.267% | j=1n(rⱼ- rᵪ)² x Prⱼ=5.31% σ=j=1nrⱼ- rᵪ2 x Prⱼ=5.31%≈2.304%

2. Tom Skinner has $45,000 invested in a stock with a beta of 0.8 and another $55,000 invested in a stock with a beta of 1.4. These are the only two investments in his portfolio. What is his portfolio’s beta?

ASSET | ASSET WORTH | PORTFOLIO BETA | BETA | TOTALS | 1 | $45,000 | 45,000/(45,000+55,000) | .8 | 0.36 | 2 | $55,000 | 55,000/(45,000+55,000) | 1.4 | 0.77 | TOTALS | | | | 1.13 |

3. Kamath Manufacturing Company has a beta of 1.45, while Gehr Industries has a beta of 0.85. The required return on the stock market is 12.00%, and the risk-free rate is 5.00%. What is the difference between Kamath's and Gehr's required rates of return?

Market Risk Premium= (.12-.05) =.07%

KAMATH: .05 + 1.45(.07) =15.15%
GEHR: .05 + 0.85(.07) = 10.95%

DIFFERENCE = 4.2%
4. Apex Roofing's stock has a beta of 1.50, its required return is 14.00%, and the risk-free rate is 5.00%. What is the required rate of return on the stock market?

Market Risk Premium = (.14-.05) = .09
9% ÷ 1.5% = 6

Market Risk Premium + Risk-Free Rate =
6% + 5% =