Suppose that there are two independent economic factors, F1 and F2. The risk-free rate is 9%, and all stocks have independent firm-specific components with a standard deviation of 49%. The following are well-diversified portfolios:
Portfolio Beta on F1 Beta on F2 Expected Return
A 2.4 2.6 27%
B 3.0 –0.26 22%
What is the expected return–beta relationship in this economy?
E(rP) = 9 % + (?P1 × ? %) + (?P2 × ? %)