Suppose that there are two independent economic factors, F1 and F2. The risk-free rate is...
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Suppose that there are two independent economic factors, F1 and F2. The risk-free rate is 3%, and all stocks have independent firm-specific components with a standard deviation of 52%. Portfolios A and B are both well-diversified with the following properties:
| Portfolio | Beta on F1 | Beta on F2 | Expected Return | ||||||||
| A | 1.4 | 1.8 | 30% | ||||||||
| B | 2.4 | 0.18 | 27% | ||||||||
What is the expected return-beta relationship in this economy? Calculate the risk-free rate, rf, and the factor risk premiums, RP1 and RP2, to complete the equation below. (Do not round intermediate calculations. Round your answers to two decimal places.)
E(rP) = rf + (P1 RP1) + (P2 RP2)
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