question 1

A portfolio manager has identified 20 stocks with a high ESG rating and 20 stocks with a low

ESG rating. The portfolio of stocks with high ESG scores has beta of 0.8 and an expected

return of 5%, while the portfolio of stocks with low ESG scores has a beta of 1.2 and an

expected return of 7%. Further, assume that the CAPM assumptions hold.

1. What is the riskfree rate and the market risk premium?

2. How can the portfolio manager replicate the outcome of the portfolio of stocks with

low ESG scores without investing in companies with low ESG scores?

3. If the portfolio manager forms a new portfolio by combining the 20 stocks with low

ESG ratings and the 20 stocks with high ESG ratings, what are the possible

combinations of risk and returns of the new portfolio?

4. If the risk free rate increases to 2%, what is the expected return of the portfolio of

stocks with low ESG scores