Problem 4 (40 marks):

You have been provided with the following data about the securities of three firms, the market portfolio, and the risk-free asset:

Security

Expected return

Standard deviation

Correlation with the market portfolio

Beta

Firm A

0.10

0.31

?

0.75

Firm B

0.12

?

0.50

1.20

Firm C

0.14

0.35

0.45

?

The market portfolio

0.12

0.25

?

?

The risk-free asset

0.04

?

?

?

a) What is the correlation of the stock of firm A with the market portfolio? (4 marks)

b)What is the standard deviation of the stock of firm B? (4 marks)

c)What is the beta of the stock of firm C? (4 marks)

d) What is the correlation of the market portfolio with itself? The beta of the market portfolio? The standard deviation of the risk-free asset? The correlation of the risk-free asset with the market portfolio? The beta of the risk-free asset? (10 marks)

e) Is the stock of firm A correctly priced according to the CAPM? Firm B? Firm C? For each stock, what is your investment recommendation (buy, sell, or indifference) for someone with a well-diversified portfolio? (18 marks)