Stock A has a beta of 0.8, Stock B has a beta of 1.0, and Stock C has a beta of 1.2.Portfolio P has equal amounts invested in each of the three stocks.Each of the stocks has a standard deviation of 25%.The returns on the three stocks are independent of one another Assume that there is an increase in the market risk premium, but the risk-free rate remains unchanged.Which of the following statements is CORRECT?
A)The required return of all stocks will remain unchanged since there was no change in their betas.
B)The required return on Stock A will increase by less than the increase in the market risk premium, while the required return on Stock C will increase by more than the increase in the market risk premium.
C)The required return on the average stock will remain unchanged, but the returns of riskier stocks (such as Stock C) will increase while the returns of safer stocks (such as Stock A) will decrease.
D)The required returns on all three stocks will increase by the amount of the increase in the market risk premium.
E)The required return on the average stock will remain unchanged, but the returns on riskier stocks (such as Stock C) will decrease while the returns on safer stocks (such as Stock A) will increase.

Question

Quizplus · Accepted Answer

The required return on Stock A will increase by less than the increase in the market risk premium because its beta is less than 1.0. The required return on Stock C will increase by more than the increase in the market risk premium because its beta is greater than 1.0. Since Portfolio P has equal amounts invested in each stock, the increase in required returns on Stocks A and C will be offset by the unchanged required return on Stock B, and the overall required return on Portfolio P will increase by an amount between the increase in required return on Stock A and the increase in required return on Stock C.

Stock a Has a Beta of 0