26 Analysis by a UCGF team has provided the following results 27 28.1 a risk free...

II) a) Calculation of Risk Premium and Expected rate of Return :

Risk Premium= Standard deviation of Market Portfolio - Risk Free return

=18.5-6.5=12%

Expected Rate of Return= Rf + Beta of market Portfolio(Rm-Rf)

=6.5 + 2.5(18.5-6.5)= 36.5%

II) b) Calculation of Expected Rate of Return:

Expected Rate of Return= Rf + Beta of Market Portfolio (Rm-Rf)

=6.5 +3.25(18.5-6.5) =45.5%

Conclusion : In the Second Question, the team is expecting more risk on the security because of this Expected rate of Return is also high in this case. If the Investor wants high return on its investment then he have to take more risk.

"High Return brings high risk to the table"

II) c) Scenario I: Risk Free Rate(Rf)=3.25%, Risk Premium= 9%, Beta of Market Portfolio= 1.45

Expected Rate of Return = Rf + Beta(Risk Premium)

=3.25+ 1.45(9)= 16.3%

Scenario II :  Risk Free Rate(Rf)=3.25%, Risk Premium= 9%, Beta of Market Portfolio= .95

Expected Rate of Return = Rf + Beta(Risk Premium)

=3.25+0.95(9)= 11.8%

Conclusion: In Scenario I, the stock is giving high return as beta of security is high but it is wrongly computed and now the beta is less therefore the return is high in this case.

III) A) As Per CAPM,

In case of JS Inc.,

Expected Rate of Return= Rf + Beta ( Rm -Rf)

=4 + 1.2 (12-4) = 13.60%

In Case of DS Corp.,

Expected Rate of Return= Rf +Beta (Rm-Rf)

=4+ .9(12-4) =11.2%

Conclusion : We should recommend to buy JS Inc. as Expected Rate of Return (13.6) is more than Actual Return (13%)

but for DS Corp. Expected Rate of return (11.2%) is less than Actual Return.

Note: Expected Return which is given in question is Actual Return.