Stock a Has an Expected Return of 12%, a Beta

question 100

Multiple Choice

Stock A has an expected return of 12%, a beta of 1.2, and a standard deviation of 20%.Stock B also has a beta of 1.2, but its expected return is 10% and its standard deviation is 15%.Portfolio AB has $300,000 invested in Stock A and $100,000 invested in Stock B.The correlation between the two stocks' returns is zero (that is, r_A,B = 0) .Which of the following statements is CORRECT?

• A) The stocks are not in equilibrium based on the CAPM; if A is valued correctly, then B is overvalued.
• B) The stocks are not in equilibrium based on the CAPM; if A is valued correctly, then B is undervalued.
• C) Portfolio AB's expected return is 11.0%.
• D) Portfolio AB's beta is less than 1.2.
• E) Portfolio AB's standard deviation is 17.5%.

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Definitions:

Financial Arrangement

A financial arrangement is an agreement between parties regarding the management, transaction, or repayment of money, often detailing terms for loans, payments, or investments.

Hedging

A risk management strategy used to offset potential losses in investments by taking an opposite position in a related asset.

Price Fluctuations

Variations in the price levels of goods, services, or assets in a market over a period of time.

Financial Risk

Financial risk involves the potential of losing financial resources or assets due to business activities, including market fluctuations, credit risk, and liquidity risk.