Mr Lee manages a fund which consists of 3 investments, namely, A, B and C. The information pertaining to the investments and the market are given below:

(a) Compute the beta and expected return of Mr Lees fund. (9 marks)

(b) Investors in Mr Lees fund have complained that the funds volatility is high. They are not comfortable with the relatively large fluctuations in the funds value. Ms Lim, the analyst, suggests that the fund sells some of the high beta stocks and invests the proceeds in bonds. Discuss the impact on the beta of the fund and its expected return. (6 marks)

(c) Mr Tan, another analyst in the fund, suggested that the funds volatility can be reduced by selling high beta stocks and investing in low beta stocks. Discuss one (1) reason why Ms Lims suggestion may be superior to Mr Tans. In other words, why is having some bonds in the portfolio better than an all-stock portfolio. (5 marks)

Investment Amount Beta Stock A Stock B Stock C $30,000 $50,000 $20,000 1.6 1.2 -0.2 Market risk premium = 6% Risk-free rate = 3%