The table below provides factor risk sensitivities and factor risk premia for a three factor model for a particular asset where factor 1 is MP the growth rate in U.S. industrial production, factor 2 is UI the difference between actual and expected inflation, and factor 3 is UPR the unanticipated change in bond credit spread.
$\begin{array}{lcc}
\text { Risk Factor } &\begin{array}{c}
\text { Factor } \
\text { Sensitivity }(\beta)
\end{array}& \begin{array}{c}
\text { Risk } \
\text { Premium }(\lambda)
\end{array} \
\hline \text { MP } & 1.76 & 0.0259 \
\text { UI } & -0.8 & -0.0432 \
\text { UPR } & 0.87 & 0.0149
\end{array}$
Calculate the expected excess return for the asset.
A) 12.32%
B) 9.32%
C) 4.56%
D) 6.32%
E) 8.02%

Question

The table below provides factor risk sensitivities and factor risk premia for a three factor model for a particular asset where factor 1 is MP the growth rate in U.S. industrial production, factor 2 is UI the difference between actual and expected inflation, and factor 3 is UPR the unanticipated change in bond credit spread.
 $\begin{array}{lcc}
\text { Risk Factor } &\begin{array}{c}
\text { Factor } \
\text { Sensitivity }(\beta)
\end{array}& \begin{array}{c}
\text { Risk } \
\text { Premium }(\lambda)
\end{array} \
\hline \text { MP } & 1.76 & 0.0259 \
\text { UI } & -0.8 & -0.0432 \
\text { UPR } & 0.87 & 0.0149
\end{array}$
Calculate the expected excess return for the asset.
A) 12.32%
B) 9.32%
C) 4.56%
D) 6.32%
E) 8.02%

Quizplus · Accepted Answer

The expected excess return is calculated as the sum of the products of the factor risk sensitivities and the factor risk premia. In this case, the expected excess return is:(1.76 * 0.0259) + (-0.8 * -0.0432) + (0.87 * 0.0149) = 0.1232 or 12.32%

The Table Below Provides Factor Risk Sensitivities and Factor Risk