FRM Part I · FRM Exam Part I · Modern Portfolio Theory (MPT) and the Capital Asset Pricing Model (CAPM)
The risk-free rate is 3% and the expected return on the market portfolio is 9%. A stock has a beta of 1.5. According to the CAPM, what is the stock's required expected return?
The required return is 12%. Under CAPM it equals the risk-free rate plus beta times the market risk premium: 3% plus 1.5 times 6%, which is 3% plus 9%. Multiplying beta by the full market return instead of the premium would give an incorrect figure.
- A9.0%
- B12.0%Correct
- C13.5%
- D10.5%
Explanation
CAPM: E(R) = 3% + 1.5 x (9% - 3%) = 3% + 9% = 12%. The 13.5% figure applies beta to the market return alone and then adds nothing, i.e. 1.5 x 9%, ignoring the risk-free rate.
Did you get it right without looking?
One question tells you little. A timed set on Modern Portfolio Theory (MPT) and the Capital Asset Pricing Model (CAPM) shows your real accuracy, how long you take and where you lose marks.
More Modern Portfolio Theory (MPT) and the Capital Asset Pricing Model (CAPM) questions
- Under two-fund separation in the CAPM with unrestricted riskless borrowing and lending, which statement is correct about two investors with …
- In the single-index model, the excess return of stock i is written as R_i - R_f = alpha_i + beta_i (R_M - R_f) + e_i. Which statement about …
- In the single-index model, the excess return of stock i is written as R_i = alpha_i + beta_i * R_M + e_i, where all returns are in excess of…
- Asset A has a volatility of 10% and Asset B has a volatility of 20%. Their correlation is 0.2. What weight in Asset A gives the minimum-vari…
- Asset A has a volatility of 20% and Asset B has a volatility of 30%. A portfolio holds 60% in A and 40% in B, and the correlation between th…
- Stock A has beta 0.8 and residual standard deviation 20%. The market's standard deviation is 10%. Using the single-index model, what is the …