A money manager is holding the following portfolio:
Stock Amount Invested Beta
1 $300,000 0.6
2 300,000 1.0
3 500,000 1.4
4 500,000 1.8
The risk-free rate is 6 percent and the portfolio's required rate of return is 12.5 percent. The manager would like to sell all of her holdings of Stock 1 and use the proceeds to purchase more shares of Stock 4. What would be the portfolio's required rate of return following this change?
We first calculate the expected return of the individual stocks. The portfolio return is given but not the market return. Using the CAPM model and the expected portfolio return, we get the market return as 11%. This has been calculated as ...
The solution explains how to calculate the required return of a portfolio is a stock is replaced with another stock having a different beta.