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Question 6 Assume CAPM holds and that the risk free rate is 1% and that...

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Question 6 Assume CAPM holds and that the risk free rate is 1% and that the expected return on the market portfolio is 12%. Consider the following 2 capital asset portfolios that are out of equilibrium (i.e., they do not fall on the Security Market Line (SML)): Portfolio A: E[RA] = 15% BA= 1.3 E[RB] = 22% Bb = 1.85 Portfolio B: a) Depict the risk-return trade-off in an illustration (in the space provided below) that includes the Security Market Line (SML), and the 2 portfolios (A and B) the risk free security and the market portfolio. Don't forget to label your axes. (2 marks) b) Refer to each of the securities in your illustration in (a), and indicate (by circling) whether the security is over-valued or under-valued, and whether investors will long or short the asset. (4 marks)

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