Problem
The investment team is considering adding both shares in Westpac in the banking sector and shares in Santos in the resources sector to their existing portfolio of shares.
The beta values for these Australian shares can be found on the yahoo finance website.
A. Using the Capital Asset Pricing Model (CAPM) find the expected return on Westpac shares when the expected return on Government bonds is 0.8%, the expected return on the market portfolio of shares is 13.2% and if the Beta for Westpac is 0.33.
B. The members of the investment team have examined the returns that they think Westpac will generate next year. If they have found that the expected returns should be 6%, using your previous calculation would you recommend that the superannuation fund should invest in Westpac shares? Why or why not?
C. Using the Capital Asset Pricing Model (CAPM) find the expected return on Santos shares when the expected return on Government bonds is 0.8%, the expected return on the market portfolio of shares is 13.2% and the Beta for Santos is 2.01.
D. The members of the investment team have examined the returns that they think Santos will generate next year. If they have found that the expected returns should be 15% using your previous calculation, would you recommend that the superannuation fund should invest in Santos shares? Why or why not?
E. How does the beta of a firm affect the expected return of that firm when using the CAPM model?
F. How is the Capital Asset Pricing model (CAPM) related to the Security Market Line (SML) in determining whether a firm is underpriced or overpriced?