Assume that the risk-free rate is 5.5 percent and the market risk premium is 6 percent. A money manager has $10 million invested in a portfolio that has a required return of 12 percent. The manager plans to sell $3 million of stock with a beta of 1.6 that is part of the portfolio. She plans to reinvest this $3 million into another stock that has a beta of 0.7. If she goes ahead with this planned transaction, what will be the required return of her new portfolio?

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Quizplus · Accepted Answer

The required return of the new portfolio can be calculated using the Capital Asset Pricing Model (CAPM) formula: Required Return = Risk-Free Rate + Beta * Market Risk Premium. The initial portfolio's required return is 12%, which changes due to the sale of stock with a beta of 1.6 and the purchase of stock with a beta of 0.7. The overall portfolio beta changes as a result, affecting the required return. The calculation involves finding the weighted average beta of the new portfolio and then applying the CAPM formula. The correct answer reflects the new required return after adjusting for the change in the portfolio's beta.

Assume That the Risk-Free Rate Is 5