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Suppose in a market of many securities, there are two securities, A and B. A has a mean return of 14.4% and a beta to
Suppose in a market of many securities, there are two securities, A and B. A has a mean return of 14.4% and a beta to some index of 1.675 while B has a mean return of 7.4% and a beta to the same index of 0.425. a) What is the mean return of the index? (3 marks) b) What is the risk free rate? (3 marks) Now suppose that, in this market, only two states are possible over the next period. Security A will record a positive return of 68% in the first state but a loss of 66% in the second state. c) What is the probability of occurrence of each state? (2 marks) d) What are the prices of the two Arrow-Debreu securities, (paying 1 in one state, and 0 in the other) associated with each state? (2 marks) e) What is the price of a new security with payoffs of 11 in the first state and 14 in the second state? (1 marks) f) What is the beta of the new security? (1 mark): Suppose in a market of many securities, there are two securities, A and B. A has a mean return of 14.4% and a beta to some index of 1.675 while B has a mean return of 7.4% and a beta to the same index of 0.425. a) What is the mean return of the index? (3 marks) b) What is the risk free rate? (3 marks) Now suppose that, in this market, only two states are possible over the next period. Security A will record a positive return of 68% in the first state but a loss of 66% in the second state. c) What is the probability of occurrence of each state? (2 marks) d) What are the prices of the two Arrow-Debreu securities, (paying 1 in one state, and 0 in the other) associated with each state? (2 marks) e) What is the price of a new security with payoffs of 11 in the first state and 14 in the second state? (1 marks) f) What is the beta of the new security? (1 mark)
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