The risk free rate is 2.5% per annum. The market portfolio has an annual mean return of 16% and annual return standard deviation of 28%.

A) An investor wishes to invest in a stock as she likes its high expected return of 20% per annum. This stock has an annual return standard deviation of 42%. Construct for this investor portfolio with the same expected return but lower risk, telling her what weights to employ and the level of risk she would face.

B) a more cautious investor wishes to invest in another stock as he likes the Low annual return standard deviation of 18%. This stock has an expected return of 8%. Construct for this investor with the same return standard deviation but higher expected return, telling him what weights to employ and the return that he would expect.

C) Write down and interpret the CAPM equation that holds in this setting.

D) Briefly explain how one would empirically test the validity of the CAPM model. Comment on the limitations of your empirical test.