# Suppose Bank of America Stock

Suppose Bank of America Stock has a beta of 1.32, whereas BoeingStock has a beta of 1.23. If the risk-free interest rate is 1.78%and the expected return of the market portfolio is 10%, accordingto the CAPM?

A.   What is the expectedreturn of Bank of America Stock? (Please Show Calculations- No excel please)

B.    What is theexpected return of Boeing Stock? (Please Show Calculations- No excel please)

C.    What is the betaof a portfolio that consists of 45% Bank of America stock and 55%Boeing stock? (Please Show Calculations – No excelplease)

D.   What is the expectedreturn of a portfolio that consists of 45% Bank of America stockand 55% Boeing stock? (Please solve it using two ways) -(Please Show Calculations)

Before getting to the solution we should know the CAPMequation.

E(Ri) = Rf + Betastock[E(Rm) – Rf ]

where, E(Ri) = Expected Return of the Stock

Rf = Risk-free Rate

Betastock = Beta of the Stock

E(Rm) = Expected return of the market portfolio

A.) Using the above equation and the information provided in thequestion,

E(R1) = 1.78% + 1.32 (10% – 1.78%) = 12.6304%

B.) Using the above equation and the information provided in thequestion,

E(R2) = 1.78% + 1.23 (10% – 1.78%) = 11.8906%

C.) Beta of Portfolio = w1Beta1 +w2Beta2

where, w1 = weight of Bank of America Stock

Beta1 = Beta of Bank of America Stock

w2 = weight of Boeing Stock

Beta2 = Beta of Boeing Stock

Beta of Porfolio = .45 X 1.32 + .55 X 1.23 = 1.2705

D.) E(Rp) = w1E(R1) +w2E(R2)

where, E(Rp) = Expected return of the portfolio

w1 = weight of Bank of America Stock

E(R1) = Expected Return of Bank of America Stock[From Part A]

w2 = weight of Boeing Stock

E(R2) = Expected Return of Boeing Stock [FromPart B]

E(Rp) = .45 X 12.6304% + .55 X 11.8906 = 12.2235%

Another way of Calculating Portfolio Expected Return,

As we already know Portfolio Beta, Risk-free Rate and ExpectedReturn on market Portfolio, we can apply CAPM equation.

E(Rp) = 1.78% + 1.2705(10% – 1.78%) = 12.2235%.

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