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# Expected Return

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Consider the following information for three stocks, A,B,and C, and portfolios of these stocks. The stocks' returns are positively but not perfectly positively correlated with one another ... the correlation coefficients are all between 0 and 1

Stock Expected Standard Deviation Beta
return
Stock A 10% 20% 1.0
Stock B 10 10 1.0
Stock C 12 12 1.4

Portfolio AB has half of its fund invested in Stock A and half of in Stock B. Portfolio ABC has 1/3 of its funds invested in each of the three stocks. The risk-free rate is 5%, and the market is in equilibrium, so required returns equal expected returns. Which of the following is correct?

A. Portfolio AB has a standard deviation of 20%
B. Portfolio AB's coefficient of variation is greater than 2.0
C. Portfolio AB's required return is greater that the required return on Stock A
D. Portfolio ABC's expected return is 10.67%
E. Portfolio ABC has a standard deviation of 20%

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## Compute the expected returns for both securities.

1). Consider the following data for two risk factors (1 and 2) and two securities (J and L).
rf = 0.05 bJ1 = 0.80
rm1 = 0.02 bJ2 = 1.40
rm2 = 0.04 bL1 = 1.60
bL2 = 2.25

a. Compute the expected returns for both securities.
b. Suppose that security J is currently priced at \$22.50 while the price of security L is \$15.00. Further, it is expected that both securities will pay a dividend of \$0.75 during the coming year. What is the expected price of each security one year from now?

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