Question
As the manager of the investment fund Buy and Hold, you are a true believer in CAPM. On your computer screen you have all the
As the manager of the investment fund Buy and Hold, you are a true believer in CAPM. On your computer screen you have all the information you need to make your investment decisions: the mean return to LuSE has been 12%, the rate of return of government bonds has been 3.5%, and the standard deviation of returns to LuSE is 21%. (a) One of your best clients, Mr. Banda, wants to invest in a portfolio with an expected return of 15% and the lowest possible risk. What is the composition of this portfolio? What is the risk (standard deviation) of this portfolio? (11 marks) (b) In the Board of Directors of Buy and Hold one of your colleagues suggested that the fund should consider investing in a well-diversified portfolio of South African stocks. This portfolio, called JSE, has had a mean rate of return of 16.69% and a standard deviation of returns of 40%. Determine whether it is worthwhile investing in JSE if: (argue why it is yes or no but explain clearly): (i) The correlation between the rate of return to the LuSE and the rate of return to the JSE is 1. (11 marks) (ii) The correlation between the rate of return to the LuSE and the rate of return to the JSE is 0. (11 marks) iii. The table provides information on four bonds. Use this information to determine the yield to maturity on these bonds. What can explain the difference in yields for bonds C and D? Bond Maturity Coupon Face Value Price A 1 0 1000 990 B 2 10 1000 980 C 3 20 1000 960 D 3 10 1000 975
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