Question 1:

a. A fund has beta of 1.5 and is projected to give a return of 22%. If the risk-free rate is 5% and the market is expected to return 15%, what is the funds abnormal return (jensens alpha)? If the CAPM is the correct asset pricing model, should you invest in that fund? Show your work.

b. What passive portfolio comprising of a market index portfolio and a money market portfolio would have the same beta as the fund? Show that the difference between the expected rate of return of this passive portfolio and that of the fund is equal to the alpha you computed in part (a).