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Tutorial 5 & 6 Questions (Chapter 8)

This document contains 7 questions related to portfolio theory and the Capital Asset Pricing Model (CAPM). Question 1 asks about using standard deviation to measure risk and its limitations. Question 2 involves calculating expected returns and standard deviations of investment portfolios in different countries. Question 3 provides data on investment projects and asks to recommend the optimal portfolio based on risk and return. Question 4 gives information on stocks held and their betas to calculate required returns. Question 5 defines efficient portfolios. Question 6 asks about the value of corporate diversification. Question 7 discusses limitations of the CAPM.

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61 views2 pages

Tutorial 5 & 6 Questions (Chapter 8)

This document contains 7 questions related to portfolio theory and the Capital Asset Pricing Model (CAPM). Question 1 asks about using standard deviation to measure risk and its limitations. Question 2 involves calculating expected returns and standard deviations of investment portfolios in different countries. Question 3 provides data on investment projects and asks to recommend the optimal portfolio based on risk and return. Question 4 gives information on stocks held and their betas to calculate required returns. Question 5 defines efficient portfolios. Question 6 asks about the value of corporate diversification. Question 7 discusses limitations of the CAPM.

Uploaded by

jiayiwang0221
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as PDF, TXT or read online on Scribd
You are on page 1/ 2

CORPORATE FINANCE (UKFF3013)

JANUARY 2024 TRIMESTER


TUTORIAL 5 & 6
PORTFOLIO THEORY AND THE CAPITAL ASSET PRICING MODEL
(CHAPTER 8)

QUESTION 1
Explain why the standard deviation may be useful in measuring risk. Under
what circumstances might the standard deviation fail to be a reliable measure
of risk?

QUESTION 2
A multinational company is thinking of investing in two overseas locations for a
planned expansion of its production facilities. The future returns from the
investments depend to a large extent on the economic situation of the countries
under consideration. An analysis of the expected rates of return under three
different scenarios is as follows:
Probability Expected return of country A Expected return of country B
0.3 20% 10%
0.3 10% 20%
0.4 15% 20%

(a) Calculate the mean return and the standard deviation of the returns from
the investment in each country.
(b) What would be the expected return and standard deviation of the
portfolio if the available funds were split 20% to country A and 80% to
country B, and the correlation between returns of the two countries are:
(i) 0
(ii) +1
(iii) –1
Give your comment.

QUESTION 3
The Investment Department of Meakom Bhd has been allocated a fixed capital
sum by the Board of Directors for its capital investments for next year. The
department’s manager has identified three viable capital projects which could
enhance the wealth of its shareholders. However, the funds allocated are
sufficient for only two of the capital projects, which are not divisible and cannot
be postponed to a later date. Each project requires the same amount of
investment.
The manager proposes to use portfolio theory to determine which two projects
should be undertaken, based upon an analysis of each project’s as well as the
portfolio risk and return.

The investment department has collected the following data:


State of the economy Probability Return on Project A (%)
Boom 0.20 22
Normal 0.60 12
Recession 0.20 -3

1|Page
CORPORATE FINANCE (UKFF3013)
JANUARY 2024 TRIMESTER
TUTORIAL 5 & 6
PORTFOLIO THEORY AND THE CAPITAL ASSET PRICING MODEL
(CHAPTER 8)

The expected return of Project B = 8.6%


The expected return of Project C = 14.2%
The standard deviation of Project B =7%
The standard deviation of Project C =9%
The covariance between projects A and B =26.42%
The possible investment options are as follows:

Portfolio
Return Standard
Deviation
Option 1 Projects A and B i ii
Option 2 Projects A and C 12.26 5.23
Option 3 Projects B and C 15.08 9.26

i. Calculate the expected return and the standard deviation of Project A.


ii. Calculate the expected return (i) and standard deviation (ii) of a portfolio
consisting of 60% of investment in Project A and the remainder in Project B.
iii. Recommend the combination of the investments that the company should
choose.

QUESTION 4
McGee Corporation has in its portfolio three stocks with the following
investments and Beta values.
Stock Beta Investments
T 0.6 200,000
U 1.5 400,000
V 2.0 100,000
Total investments 700,000
Assume CAPM is true. The market has a return of 16 percent and the risk-free
rate is 6 percent.
You are required to:
i Calculate the required return of each stock.
ii Determine the beta value of the portfolio.
iii Calculate the required return of the portfolio.

QUESTION 5
Explain the concept of efficient portfolio.

QUESTION 6
Comment on the proposition that diversification at corporate level is of no value
to the company’s shareholders.

QUESTION 7
Explain the limitations of Capital Asset Pricing Model (CAPM).

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