A stock analyst has come to the conclusion that three stocks have the following characteristics:

Stock Expected Return Beta

X 3% 0.20

And 4% 0.50

From 9% 1.20

1. Given this information, the analyst should recommend:

(A) buying a portfolio that has a 45% weight on X, and 55% on Y, while selling (short)

the same dollar amount of Z.

(B) selling (short) a portfolio that has a 45% weight on X, and 55% on Y, while buying

the same dollar amount of Z.

(C) buying a portfolio that has a 70% weight on X and 30% on Z, while selling (short)

the same dollar amount of Y.

(D) selling (short) a portfolio that has a 70% weight on X and 30% on Z, while buying

the same dollar amount of Y.

2. Suppose (correctly or incorrectly) that the analyst has chosen alternative 21A in the

previous question and that a large group of investors has followed his advice. What

would you expect to happen in the market?

(A) The price of stocks X and Y will rise, and that of stock Z will fall; the expected

return of stocks X and Y will rise, and that of stock Z will fall.

(B) The price of stocks X and Y will fall, and that of stock Z will rise; the expected

return of stocks X and Y will rise, and that of stock Z will fall.

(C) The price of stocks X and Y will rise, and that of stock Z will fall; the expected

return of stocks X and Y will fall, and that of stock Z will rise.

(D) The price of stocks X and Y will rise, and that of stock Z will fall; the expected

return of stocks X and Y will rise, and that of stock Z will fall.