Reference no: EM133071366

Two portfolio managers, Mr. P and Mr. Q, claim that they are both good at picking under-priced stocks. Over the years, the average return of the portfolio managed by Mr. P was 11%, while the average return of Mr. Q's portfolio was 12%. Over the same period, the average market return was 10%, with a standard deviation 15%. I have estimated that the covariance between Mr. P's portfolio and the market was OPM=0.0252, while the covariance between Mr. Q's portfolio and the market was COM=0.0306. Finally, the risk-free rate is 2%.

(a) Compute the expected returns of Mr. P's and Mr. Q's portfolios. (hint: use the CAPM)

(b) Can the volatilities of Mr. P's and Mr. Q's portfolios be 16% and 22%, respectively?

(c) Using the CAPM as the benchmark, are the two managers out-performing the market?

(d) If both Mr. P's and Mr. Q's average returns reflects the expected returns, what should be the implied beta of each fund? What can you say about the estimated covariance with the market for each fund?