Portfolio beta and weights

Rafael is an analyst at a wealth management firm. One of hisclients holds a $10,000 portfolio that consists of four stocks. Theinvestment allocation in the portfolio along with the contributionof risk from each stock is given in the following table:

Stock	Investment Allocation	Beta	Standard Deviation
Atteric Inc. (AI)	35%	0.900	23.00%
Arthur Trust Inc. (AT)	20%	1.400	27.00%
Li Corp. (LC)	15%	1.100	30.00%
Transfer Fuels Co. (TF)	30%	0.300	34.00%

Rafael calculated the portfolio’s beta as 0.850 and theportfolio’s expected return as 8.6750%.

Rafael thinks it will be a good idea to reallocate the funds inhis client’s portfolio. He recommends replacing Atteric Inc.’sshares with the same amount in additional shares of Transfer FuelsCo. The risk-free rate is 4%, and the market risk premium is5.50%.

According to Rafael’s recommendation, assuming that the marketis in equilibrium, how much will the portfolio’s required returnchange? (Note: Do not round your intermediate calculations.)

0.9009 percentage points

1.4322 percentage points

1.1550 percentage points

1.3283 percentage points

Analysts’ estimates on expected returns from equity investmentsare based on several factors. These estimations also often includesubjective and judgmental factors, because different analystsinterpret data in different ways.

Suppose, based on the earnings consensus of stock analysts,Rafael expects a return of 6.02% from the portfolio with the newweights. Does he think that the required return as compared toexpected returns is undervalued, overvalued, or fairly valued?

Undervalued

Overvalued

Fairly valued

Suppose instead of replacing Atteric Inc.’s stock with TransferFuels Co.’s stock, Rafael considers replacing Atteric Inc.’s stockwith the equal dollar allocation to shares of Company X’s stockthat has a higher beta than Atteric Inc. If everything else remainsconstant, the portfolio’s beta would   .