a. State the CAPM equation, and explain which is the most important implication of the Capital Asset Pricing Model. (25 marks) b. Assume that all stock returns are generated by the two factor model shown below; Ri,t=ai+b1,iF1,t+b2,iF2,t+ei,t What conditions are generally placed on the distributions of and correlations between the random variables on the right-hand side of this equation and what do those conditions imply for the manner in which stock risk is determined. (25 marks) c. Discuss how transactions costs might be embedded in the standard mean-variance optimization problem fered by an investor. How does taking transactions costs into accoont affect our choice of an optimal portfolio? (25 marks) d. Write down the classic Fama-French three-factor model. Describe how the factors are constructed and thus its implications for the sources of risk in an economy. Do you think that there is a clear and strong link between fundamental sources of risk in the economy that investors might face and the Fama-French factors? (25 marks) a. State the CAPM equation, and explain which is the most important implication of the Capital Asset Pricing Model. (25 marks) b. Assume that all stock returns are generated by the two factor model shown below; Ri,t=ai+b1,iF1,t+b2,iF2,t+ei,t What conditions are generally placed on the distributions of and correlations between the random variables on the right-hand side of this equation and what do those conditions imply for the manner in which stock risk is determined. (25 marks) c. Discuss how transactions costs might be embedded in the standard mean-variance optimization problem fered by an investor. How does taking transactions costs into accoont affect our choice of an optimal portfolio? (25 marks) d. Write down the classic Fama-French three-factor model. Describe how the factors are constructed and thus its implications for the sources of risk in an economy. Do you think that there is a clear and strong link between fundamental sources of risk in the economy that investors might face and the Fama-French factors? (25 marks)