Question 1 (15 marks)

After graduating from JCU with a Banking & Finance degree, you work as a financial engineer in a boutique hedge fund. One of your job responsibilities is to design the investment strategies. You strongly believe that all risky assets should be priced by CAPM. Thus, you would like to apply the CAPM theory to constructing an investment portfolio.

Required:

1. a)Write down the steps (no calculation) to show how you would carry out the long-short strategy based on CAPM in practice.
2. (6 marks)
3. b)During the risk-on period, i.e. interest rate is low, investors expect a better growth prospect and performance of the market post-COVID-19. According to CAPM, what kind of stocks should have a better performance? How does it affect your security market line (SML) and show your results on SML diagram?
4. (5 marks)
5. c)You suspect that there are other risks should also be priced in CAPM. What are the possible risk factors you would consider and include them in your asset pricing models?(4 marks)