Question 25

The table below contains information on two shares: X and Y. R₀ is the realized one-year holding period period in the year just ended. E(R₁) is the forecast return for the next year based on the performance of the company. The market risk premium is 8% and risk free rate is 2%.

b) For an investor who has already been holding a well-diversified portfolio and only wants to add more shares if doing so will improve the portfolios alpha. Should this investor invest in X or Y? Or both? Or neither? Explain. (2 marks)

Shares RO 12% 8% E(R) 10% 12% Beta 1.2 0.8 Standard Deviation 19% 22% Y