Q7C.
Expert-verifiedUse the following scenario analysis for stocks X and Y to answer CFA Questions
Question: What are the expected returns for stocks X and Y?
The correct answer is:
E(r_{X }) = 20%
E(r_{Y }) = 10%
Probability (scenario- Bear Market) = 0.2
Probability (scenario-Normal Market) = 0.5 and
Probability (scenario- Bull Market) = 0.3
Return for Stock X (all 3 scenarios) = --20%, 18% and 50%
Return for Stock Y (all 3 scenarios) = --15%, 20% and 10%
Expected return = [Probability (Scenario) x Return in Scenario]
Hence,
E(r_{X}) = [0.2 x (–20%)] + [0.5 x 18%] + [0.3 x 50%)] = 20%
E(r_{Y}) = [0.2 x (–15%)] + [0.5 x 20%] + [0.3 x 10%)] = 10%
If the simple CAPM is valid, which of the situations in Problems 13 – 19 below are possible? Explain. Consider each situation independently.
Portfolio | Expected Return | Standard Deviation |
A B | 30% 40 | 35% 25 |
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