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In addition, the market's expected return is 15% and the risk-free rate is 5%. Assume that the residuals of the two stocks are uncorrelated. Answer

In addition, the market's expected return is 15% and the risk-free rate is 5%. Assume that the residuals of the two stocks are uncorrelated. Answer the following questions.

(i) According to the CAPM, what is the expected return and systematic variance of an equally- weighted portfolio of the two stocks?

(ii) Suppose the advisor tells you that the price of XYZ implies an expected return of 13% and the price of ABC implies an expected return of 17%. According to the CAPM, what position should you take in each of the two securities? Why?

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