2. Multifactor Models (15 pts) For the following situations you will be given market numbers and information about assets, you can assume the APT holds (a) (5 pts) Suppose you have two risk factors that define the market, and have two portfolios that represent the return on these risk factors. Portfolio 1 has an expected return of 15 percent and Portfolio 2 has an expected return of 6%. The risk free rate is 3%. What would be the excess return on a well diversified portfolio A, if A has a beta of 0.8 on the first factor and a beta of 0.5 on the second factor? (b) (5 pts) Suppose you have two risk factors that define the market, and have two factor portfolios that represent the return on these risk factors The risk free rate is 6%, the risk premium on the first factor portolio is 4% and the risk premium on the second factor portfolio is 3%. If a well diversified portfolio A has a beta of 1.2 on the first factor and 0.8 on the second factor, what is its expected return? (c) (5 pts) Suppose you have a market with three risk factors, the market return (represented by the market portfolio) a risk factor denoted SMB and another risk factor denoted HML. Suppose the return on the portfolio that defines HML is equal to 10 percent, the return on the market portfolio is 13 percent and the return on the portfolio that defines SMB is 6 percent. The risk free rate is 5 percent. Suppose the expected return on an asset A with m=0.4,HML=0.7, and SMB=1.2 is 10 percent. Is the asset mispriced and if so by how much? Is this consistent with APT? 2. Multifactor Models (15 pts) For the following situations you will be given market numbers and information about assets, you can assume the APT holds (a) (5 pts) Suppose you have two risk factors that define the market, and have two portfolios that represent the return on these risk factors. Portfolio 1 has an expected return of 15 percent and Portfolio 2 has an expected return of 6%. The risk free rate is 3%. What would be the excess return on a well diversified portfolio A, if A has a beta of 0.8 on the first factor and a beta of 0.5 on the second factor? (b) (5 pts) Suppose you have two risk factors that define the market, and have two factor portfolios that represent the return on these risk factors The risk free rate is 6%, the risk premium on the first factor portolio is 4% and the risk premium on the second factor portfolio is 3%. If a well diversified portfolio A has a beta of 1.2 on the first factor and 0.8 on the second factor, what is its expected return? (c) (5 pts) Suppose you have a market with three risk factors, the market return (represented by the market portfolio) a risk factor denoted SMB and another risk factor denoted HML. Suppose the return on the portfolio that defines HML is equal to 10 percent, the return on the market portfolio is 13 percent and the return on the portfolio that defines SMB is 6 percent. The risk free rate is 5 percent. Suppose the expected return on an asset A with m=0.4,HML=0.7, and SMB=1.2 is 10 percent. Is the asset mispriced and if so by how much? Is this consistent with APT