1) Consider stocks A, B and C. Assume that you know future returns under four scenarios as follows. (Assume the data are in decimals; the 0.07 you see is really 7%.)

State of the Economy	Probability of State	Return of Stock A	Return of Stock B	Return of Stock C	Risk-Free Return	Market Return
Very Strong	0.25	0.07	0.10	0.19	0.03	0.14
Strong	0.25	0.08	0.09	0.14	0.03	0.11
Mild	0.25	0.03	0.02	0.01	0.03	0.01
Weak	0.25	-0.01	-0.02	-0.10	0.03	-0.04

1. Calculate the mean, variance and standard deviation for each stock. Calculate the covariance and correlation between each pair of stocks. Calculate the covariance and correlation between each stock and the market return. Finally, calculate the Capital Asset Pricing Model (CAPM) betas for stocks A, B and C. (Hint: Since the states are equally likely, you can use VARP, COVAR or CORR functions in Excel).

2. Calculate the expected return, standard deviation and beta of the portfolio of an investor who invests in a specific portfolio of these stocks. This investor has $83,000 invested. She has invested $55,000 in Stock A and $28,000 in Stock B.

ABC + SML E[R] + XYZ B In the above graph, the x-axis is market risk (B), and the y-axis is expected return (E[R]). The '+' marks represent the location of stocks ABC and XYZ. State whether stocks ABC and XYZ are overpriced, underpriced or fairly priced with respect to the Capital Asset Pricing Model (CAPM). Give a brief explanation to support your answer. ABC + SML E[R] + XYZ B In the above graph, the x-axis is market risk (B), and the y-axis is expected return (E[R]). The '+' marks represent the location of stocks ABC and XYZ. State whether stocks ABC and XYZ are overpriced, underpriced or fairly priced with respect to the Capital Asset Pricing Model (CAPM). Give a brief explanation to support your