4. John is a financial engineer who has developed an asset pricing model. Like generally accepted pricing models, Johns model predicts a relationship between risk and expected return. However, Johns model uses something called Zen (represented by the variable in Johns writings) as a risk measure. Only John understands how to calculate Zen, but John claims to have proven that, for any stock, ( ) = 3. The following table provides data for five stocks, including actual return, Zen, and beta. Stock Zen Beta Actual Return A 0.08 2.00 32.0% B 0.24 1.75 32.0 C 0.07 1.20 24.0 D 0.04 0.50 12.0 E 0.03 0.25 8.5

a. For each stock, calculate the expected return according to Johns model and the CAPM. The expected return on the market is 20%, and the risk-free rate is 4%. [15 marks]

b. For each stock, use both pricing models to determine whether or not the stock earned an abnormal return. Show whether the abnormal return is positive, negative, or zero. [15 marks]

c. What does this problem reveal about the real-world difficulties of determining whether the market is efficient? [20 marks]