Reference no: EM132584797

In a recent closely contested lawsuit, Apex sued Bpex for patent infringement. The jury came back today with its decision. The rate of return on Apex was rA = 3:1%. The rate of return on Bpex was only rB = 2:5%. The market today responded to very encouraging news about the unemployment rate, and rM = 3%. The historical relationship between returns on these stocks and the market portfolio has been estimated from index model regressions as:

Apex : rA = 0.2% + 1.4*rM

Bpex : rB = -0.1% + 0.6*rM

On the basis of these data, which company do you think won the lawsuit?

ANSWER(?)

Given

rA = 3.1%

rB = 2.5%

rM = 3.0%

Calculations

Apex

Fair expected return = 0.2 + 1.4*3% = 4.40%

Alpha (A) = Actual Return - Fair Expected Return = 3.1% - 4.4% = -1.3%

Alpha is negative = The actual return is underperforming the fair expectation

Bpex

Fair expected return = -0.1% + 0.6*3% = 1.70%

Alpha (B) = 2.5% - 1.7% = 0.8%

Alpha is positive = The actual return is outperforming the fair expectation

Conclusion

Bpex won the lawsuit.

KEY QUESTION

Please explain why you can conclude that Bpex won the lawsuit based on the above.