SECURITY MARKET LINE You plan to invest in the Kish Hedge Fund, which has total capital of $500 million invested in five stocks:
Stock Investment Stock’s Beta Coefficient A $160 million 0.5 B 120 million 1.2 C 80 million 1.8 D 80 million 1.0 E 60 million 1.6 Kish’s beta coefficient can be found as a weighted average of its stocks’ betas. The risk-free rate is 6%, and you believe the following probability distribution for future market returns is realistic:
Probability Market Return 0.1 −28%
0.2 0 0.4 12 0.2 30 0.1 50

a. What is the equation for the Security Market Line (SML)? (Hint: First, determine the expected market return.)

b. Calculate Kish’s required rate of return.

c. Suppose Rick Kish, the president, receives a proposal from a company seeking new capital. The amount needed to take a position in the stock is $50 million, it has an expected return of 15%, and its estimated beta is 1 5. Should Kish invest in the new company? At what expected rate of return should Kish be indifferent to purchasing the stock?AppendixLO1