Purchase Solution

# Predicting the Value of Two Stocks

Not what you're looking for?

6) There are two stocks in the market, stock A and stock B. The price of stock A today is \$75. The price of stock A next year will be \$63 if the economy is in a recession, \$83 if the economy is normal, and \$96 if the economy is expanding. The probabilities of recession, normal times, and expansion are .2, .6, and .2 respectively. Stock A pays no dividends and has a correlation of .8 with the market portfolio. Stock B has an expected return of 13%, a standard deviation of 34%, a correlation with the market portfolio of .25, and a correlation with stock A of .48. The market portfolio has a standard deviation of 18%. Assume CAPM holds.

a. If you are a typical, risk adverse investor with a well-diversified portfolio, which of the stocks would you prefer to hold? Why?
b. What are the expected return and standard deviation of a portfolio consisting of 70% stock A and 30% of stock B?
c. What is the beta of the portfolio in part b.?

##### Solution Summary

The expert predicts the value of two stocks.

##### Solution Preview

6) There are two stocks in the market, stock A and stock B. The price of stock A today is \$75. The price of stock A next year will be \$63 if the economy is in a recession, \$83 if the economy is normal, and \$96 if the economy is expanding. The probabilities of recession, normal times, and expansion are .2, .6, and .2 respectively. Stock A pays no dividends and has a correlation of .8 with the market portfolio. Stock B has an expected return of 13%, a standard deviation of 34%, a correlation with the market portfolio of .25, and a correlation with stock A of .48. The market portfolio has a standard deviation of 18%. Assume CAPM ...

##### Free BrainMass Quizzes

Importance of Critical Thinking

This quiz is intended to help business students better understand business processes, including those related to manufacturing and marketing. The questions focus on terms used to describe business processes and marketing activities.

##### Marketing Management Philosophies Quiz

A test on how well a student understands the basic assumptions of marketers on buyers that will form a basis of their marketing strategies.