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Tutorial 2 - nope

Marketing (Universiti Teknologi MARA)

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TUTORIAL 2 TOPIC 2: Risk & Return

QUESTION 1 (FEB2021, Q1)

The Finance Manager of Mekar Indah Bhd proposes two risky securities and risk-free
securities for investment consideration which are currently traded at the stock exchange. The
following information shows the estimated returns of the two securities: Pluto Bhd and Venus
Bhd in different economic condition.

State of economy Recession Normal Boom

Probability 0.30 0.40 0.30
Estimated return (%)
Pluto Bhd -12 13 18
Venus Bhd 11 10 8

The expected returns and standard deviation of the market are 6.30% and 8.13% respectively.
The covariance between Pluto Bhd and the market is 93.25 while the covariance between
Venus Bhd and the market is 58.21.

Mekar Indah Bhd plans to bid for auction the Malaysian Treasury Bills issued by the
government which offers the rate of return at 4%.

Required:

a. Calculate the expected return, standard deviation and beta of the following securities:

i. Pluto Bhd
ii. Venus Bhd
iii. Malaysian Treasury Bills
(10 marks)

b. Applying the Capital Asset Pricing Model (CAPM) and assuming its hold true:

i. Evaluate whether the above securities are correctly priced or otherwise

ii. Advise the choice of option of investment for Mekar Indah Bhd
( 5 marks)

c. Explain on the Beta implying in (a) above with regard to systematic risk.
(2 marks)

d. Mr Danial and Mr Rayyan are childhood friends. Mr Danial is an active investor in AAA’s
stock under banking sector. Based on his findings, he believed that the returns from the
banking sector can raise up to 60 percent in the coming year. In addition, it is impossible
to get similar kind rate of return in any portfolio holding. He suggests to Mr Rayyan to
put all his fund into AAA’s stock.

Comment on Mr Danial’s suggestion from the investor’s risk perspective.

(3 marks)
(Total: 20 marks)

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TUTORIAL 2 TOPIC 2: Risk & Return

QUESTION 2 (FEB2022, Q1)

A. The top management of Kurama Bhd intends to create a portfolio consisting of two (2)
stocks between Ayan, Balsa and Cedar. They request you to analyze the information
below to help them in making an investment decision.

Stock Expected return Standard deviation

Ayan 10% 20%
Balsa 18% 28%
Cedar 28% 30%

Additional information:

The beta coefficient of Ayan is 0.9 more than market beta and Cedar is 0.2 less than
market beta. Balsa is having beta coefficient of 2.00 and more riskier than Ayan and
Cedar. The yield on treasury bills is 5%, expected return on market is 13% and the
market beta coefficient is 1.00. The correlation between the stocks is:

Stocks Correlation
Ayan: Balsa -0.5
Ayan: Cedar 0.6
Balsa: Cedar 0.1

Required:

a. Calculate the expected returns for all possible 2-stock portfolios if the top
management intends to hold a portfolio consists of 30% of Ayan and 70% of Balsa
while the other portfolios are equally invested between any two stocks selected.

(3 marks)

b. Calculate the standard deviation for a portfolio which consists of two stocks that
have lowest systematic risk.
(2 marks)

c. Applying the CAPM.

i. Determine the portfolio beta and required return for all portfolios available in
(a).
(5 marks)

ii. Recommend which of the portfolios constructed in (a) and (c)(i) would be a
good choice of investment for Kurama Bhd.
(5 marks)

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TUTORIAL 2 TOPIC 2: Risk & Return

B. Mr. Zack wishes to invest in both, risky and riskless investment. The following data on
the respective securities are as below:

Security Expected Standard Correlation (*) Beta

return deviation
MGS 5% (iv) NA (v)
Market Portfolio 23% 15% 1.00 (iii)
Tesla Inc 12% (ii) 0.85 0.55
Highway Ltd 26% 20% (i) 1.20
Note:
1. (*) The correlation is with the market portfolio.
2. NA – Not Available
3. MGS – Malaysian Government Securities

Required:

Determine the missing value in the table identified as follows:

i. Correlation of Highway Ltd

ii. Standard Deviation of Tesla Inc
iii. Beta of Market Portfolio
iv. Standard Deviation of MGS
v. Beta of MGS
(5 marks)
(Total: 20 marks)

QUESTION 3 (JULY2022, Q1)

A. Ameera, the Financial Manager of Mercury Berhad, is currently evaluating an investment

proposal to invest in one of the following two risky securities.

State of economy Probability Avira Harta

Recession 20% 18% 25%
Normal 50% 20% 14%
Boom 30% 35% 9%

Required:

a. For each security, calculate the following:

i. Expected return
ii. Standard deviation
iii. Covariance
(5 marks)

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TUTORIAL 2 TOPIC 2: Risk & Return

b. However, Ameera is considering investing in both securities than a single security.

The following is the proposed combination of two portfolios of Avira and Harta:

Portfolio Weightage Expected Return Standard Deviation

1 10% Avira, 90% Harta 16.58% 3.54%
2 90% Avira, 10% Harta 23.16% 6.05%

Assuming that the lowest standard deviation for the possible combination of the
two assets is 2.41% (with an expected return of 19.4%):

Required:

i. Sketch the graph with the appropriate label for the possible combination of
investment in Avira and Harta.
ii. Advise Ameera regarding the efficient portfolio by referring to the graph.

(5 marks)

B. Mr. Jeremy, an amateur investor wishes to invest in the stock market and has obtained
the following information about two stocks: Stock Omega, and Stock Hublot.

Stock Average Variance Correlation with the market

return portfolio
Omega 0.13 0.0064 0.90
Market 0.18 0.0144 1.00
Hublot The beta of Stock Hublot is 1.50

Assume Mr. Jeremy wants to invest RM100,000 in a portfolio comprised of Stock Omega
and Stock Hublot.

Required:

Calculate how much the value of investment (RM) Mr. Jeremy needs to invest in each
stock if he wants the beta of the portfolio to be 1.20.
(5 marks)

C. The following information is regarding two securities traded on the stock exchange:

Security Expected Return Standard Beta Required return

(Analyst forecast) deviation (CAPM)
A 25% 5.6% 1.2 22%
B 23% 4.2% 1.5 24%

Suresh and Malathi are partners of SM Bhd. They are planning to invest in one of the
above stocks. Advise Suresh and Malathi on the best choice of security to invest. (No
calculation is required).
(5 marks)
(Total: 20 marks)

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TUTORIAL 2 TOPIC 2: Risk & Return

QUESTION 4 (FEB2023, Q1)

A. The economy registered growth in the first quarter of the year 2023 despite rumors of
bad recessions occurring. As such, the analyst forecasted the likelihood of observing
the economic boom is 3 times higher than economic recession. Yuki believes the stock
market will recover and considering investing in two stocks; GET and SET. The following
is the information related to the two stocks:

Rate of return (%)

State of economy
Stock GET Stock SET
Recession 25 9
Boom 6 15

Additional information:

Beta of GET 1.2

Beta of SET 0.8
Standard deviation of the market 6%
Risk-free rate of return 3%
Market risk premium 12%

Required:

a. For each stock GET and stock SET, compute the following:

i. Expected return
ii. Standard deviation
(5 marks)

b. Instead of investing in the stocks individually, Yuki also wishes to invest

RM300,000 in a portfolio consisting of both stocks in which RM120,000 is placed
into stock GET and the remaining balance in stock SET.

Compute the following for the portfolio:

i. Expected return
ii. Standard deviation
iii. Beta
(5 marks)

c. Assuming the Capital Asset Pricing Model (CAPM) holds.

i. Calculate the required rate of return for stock GET, stock SET, and the
portfolio.
ii. Considering the risk factor and valuation of shares, advise Yuki on which
investment option(s) should he invest in.
(5 marks)

B. “A negatively correlated portfolio may never provide investors with the best return
possible”.

Discuss the statement.

(5 marks)
(Total: 20 marks)

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