Stocks A and B both have an expected return of 10% and a standard deviation of returns of 25%.Stock A has a beta of 0.8 and Stock B has a beta of 1.2.The correlation coefficient,r,between the two stocks is +0.6.Portfolio P has 50% invested in Stock A and 50% invested in B.Which of the following statements is CORRECT?
A) Portfolio P has a standard deviation of 25% and a beta of 1.0.
B) Based on the information we are given,and assuming those are the views of the marginal investor,it is apparent that the two stocks are in equilibrium.
C) Portfolio P has more market risk than Stock A but less market risk than B.
D) Stock A should have a higher expected return than Stock B as viewed by the marginal investor.
E) Portfolio P has a coefficient of variation equal to 2.5.

Question

Quizplus · Accepted Answer

- The expected return of Portfolio P is also 10%, calculated as: (0.5 x 10%) + (0.5 x 10%) = 10%
- The standard deviation of returns of Portfolio P is calculated as: 
SQRT[(0.5^2 x 0.25^2) + (0.5^2 x 0.25^2) + 2 x 0.5 x 0.5 x 0.6 x 0.25 x 0.25]= 0.2357 or 23.57%
- The beta of Portfolio P is calculated as:
(0.5 x 0.8) + (0.5 x 1.2) = 1.0
- Portfolio P has more market risk than Stock A but less market risk than Stock B because it has an equal combination of both stocks.

Stocks a and B Both Have an Expected Return of 10