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Draw the security market line

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Question - Assume the following information on the stock market index, the risk free T -bill rate and two stocks, A and B:

 

Ex return

corre coefficient

std deviation

T-bill rate

4

0

0

Market index

11

1

15

Stock A

14

0.7

25

Stock B

9

0.4

20

(a) Calculate the covariances of the two stocks, with the stock market index.

(b) Calculate the betas of the two stocks.

(c) Give the equation ofthe CAPM, based on the data above.

(d) Draw the Security Market Line, labeling the axes and indicating the intercept and slope of the line. Plot (approximately) the expected returns of the stocks, relative to the SML.

(e) Determine whether the stocks are under-priced or over-priced, and whether or not they are good to buy. State your reasons.

Reference no: EM132547917

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