Question
Consider the following data representing security analysts estimates of the expected return on two stocks, A and D, as well as the market expected return
Consider the following data representing security analysts estimates of the expected return on two stocks, A and D, as well as the market expected return in each of the two possible states of the economy: State - Normal growth and boom ,probability .5 and ,.5,Market 5% and 25%,A-Suppose that assumptions of the CAPM A --2% AND 38%,D -6% and 12%.suppose the assumption of the CAPM are satisfied in this economy and that the risk free rate is 6%. (a) What is the expected rate of return on each stock according to the analysts estimates? (b) What are the betas for stocks A and D? Explain and show your calculations. (c) What should be the expected rates of return on each stock according to CAPM? (d) Write down the equation for the Security Market Line (SML) and draw it on a graph. (e) Plot the returns on A and D calculated in (a) on the SML graph. What are the alphas for each stock?
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