Corporate Finance Exercise: Correlation and Beta - CAPM
You have been provided the following data about the securities of tree firms, the market portfolio, and risk-free:
Security Expected return Standard deviation Correlation* Beta
Firm A .10 .27 (i) .85
Firm B .14 (ii) .50 1.50
Firm C .17 .70 .35 (iii)
The market portfolio .12 .20 (iv) (v)
The risk-free asset .05 (vi) (vii) (viii)
*With the market portfolio
a) Fill in the missing values in the table. (show workings)
b) Is the stock of Firm A correctly priced according to the capital asset pricing model (CAPM)? What about the stock of Firm B? Firm C? If these securities are not correctly priced, what is your investment recommendation for someone with a well-diversified portfolio?