Task: Risk, Return, and the Capital Asset Pricing Model
As a first day intern at Tri-Star Management Incorporated the CEO asks you to analyze the following information pertaining to two common stock investments, Tech.com Incorporated and Sam’s Grocery Corporation. You are told that a one-year Treasury Bill will have a rate of return of 5% over the next year. Also, information from an investment advising service lists the current beta for Tech.com as 1.68 and for Sam’s Grocery as 0.52. You are provided a series of questions to guide your analysis.
Assignment:
Problem 1. Calculate the expected rate of return for Tech Incorporated, Sam’s Grocery Corporation, and the S&P 500 Index.
Problem 2. Calculate the standard deviations in estimated rates of return for Tech Incorporated, Sam’s Grocery Corporation, and the S&P 500 Index.
Problem 3. Which is a better measure of risk for the common stock of Tech Incorporated and Sam’s Grocery Corporation—the standard deviation you calculated in Question 2 or the beta?
Problem 4. Based on the beta provided, what is the expected rate of return for Tech ncorporated and Sam’s Grocery Corporation for the next year?
Problem 5. If you form a two-stock portfolio by investing $30,000 in Tech Incorporated and $70,000 in Sam’s Grocery Corporation, what is the portfolio beta and expected rate of return?
Problem 6. If you form a two-stock portfolio by investing $70,000 in Tech Incorporated and $30,000 in Sam’s Grocery Corporation, what is the portfolio beta and expected rate of return?
Problem 7. Which of these two-stock portfolios do you prefer? Why?