Problem 1 (24 marks):
You are given the following information on Aardvark (A) Inc, Bandicoot (B) Inc and the TSX market portfolio, under 5 different economic conditions. Aardvark Inc has a correlation with the market portfolio of 0.9 and Bandicoot Inc has a correlation with the market portfolio of -0.5. The TSX market portfolio has a standard deviation of 10%. The government of Canada T-bill is yielding a return of 4%.
|State of the Economy||Probability||Return on A||Return on B|
Problem 2 (8 marks):
You have $100,000 to invest in a portfolio containing Xantus shares and Yak shares. Your goal is to create a portfolio that has an expected return of 10.6%. Xantus has an expected return of 11.4% and a beta of 1.25. Yak has an expected return of 8.68% and a beta of 0.85,
Problem 3 (4 marks)
For each stock state whether it is overvalued, undervalued or correctly priced if the risk-free rate of return is 3.2% and the expected return on the market is 11.6%. Also state your investment strategy (buy, sell, or hold).
Problem 4 (10 marks)
A company recently paid a dividend of $1.45. You expect dividends to grow at a rate of 5% for 1 year, then level off to 3.5% per year, forever. The company’s shares have a correlation with the market of 0.8. The standard deviation of the market is 3.4% and the standard deviation of the stock is 2.5%. The return on T-bills is 3% and the market risk premium is 5%.
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