CAS Exam 9 Spring 2016, Question 5
Study guide: Exam 9
Given the following information:
- Risk free rate is 5%.
- Expected market return is 15%.
- The market price of risk is 40%.
- The covariance of stock A with the market is 20%.
- The current price of stock A is $90.
Part a (0.75 points)
Calculate the expected return for stock A using the Capital Asset Pricing Model.
Part b (0.5 points)
Explain how the current price of stock A would be expected to change if investors forecast the price of stock A to be $99 in one year.
Part c (0.5 points)
The current price of stock A remains at $90 despite the forecasted price of $99 in one year. Briefly describe an arbitrage opportunity that exists.
Part d (1 point)
Describe two limitations to being able to take advantage of an arbitrage opportunity.
No current syllabus covers this question; it is kept for the record.
Answer this question and see the worked solution