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CFA Level I · CFA Level I Exam · The Capital Asset Pricing Model, Market Model, and Other Factor-Based Equity Models

A portfolio manager observes that a fund earns a return of 11.0% with a beta of 1.10. The risk-free rate is 3.0% and the market return is 9.0%. Jensen's alpha of the fund is closest to:

Jensen's alpha is about 1.4%. The CAPM required return is 3.0% plus 1.10 times the 6.0% market premium, or 9.6%. The fund's actual return of 11.0% exceeds this by 1.4 percentage points.

  1. A-0.6%
  2. B1.4%Correct
  3. C2.0%

Explanation

Required return = 3.0% + 1.10 × (9.0% − 3.0%) = 9.6%. Alpha = 11.0% − 9.6% = 1.4%. Choice 2.0% compares the fund return with the market return less the risk-free rate adjustment incorrectly, ignoring beta (11.0% − 9.0%).

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