CFA Practice Question

There are 294 practice questions for this study session.

CFA Practice Question

Stock A has a standard deviation of 16% and a beta of 1.1. T-bills are currently yielding 3.7% on an annualized basis. The expected return on the market index is 9.1% while its standard deviation is 14.9%. If Stock B is expected to earn 10.51% and it is of equal risk to Stock A, which of the following statements would be the most accurate?
A. Since Stock A has an expected return of 9.64%, it must be underpriced.
B. Since Stock A has an expected return of 11.41%, it must be underpriced.
C. Since Stock A has an expected return of 9.64%, it must be overpriced.
Explanation: Stock A's E(R) is 9.64% [3.7% + 1.1 * (9.1% - 3.7%)] and stock B's E(R) is 10.51%. Stock A is overpriced (this results a lower expected return.)

User Contributed Comments 7

User Comment
labsbamb Ea= rf+ (Em-rf)*beta(a)

For stock A: E(R) = 3.7 + 1.1 * (9.1 - 3.7) = 9.64%
Bibhu T bills can be assumed as risk free rate.
surob Stock A's expected return is lower than Stock B's, although they both has the same risk. So, A is overvalued.
danrow Should not be both stocks under priced compared to the market (they offer a higher return than the expected return on the market)? Then the answer should be that B is more under priced than A?
rhardin Yea, just because B is underpriced does not mean A must be overpriced. They both could be underpriced, just B is more so. So I think this question is missing information... such as the expected return on A so we can compare the required return to it.
MattNYC The question is asking for price. If stock A's expected return is LOWER than its comparable, that must mean its PRICE in the marketplace is currently overvalued relative to B.
malawyer well, the fun thing about a formula with an expected return that HAS NO PARAMETER "PRICE" IN IT
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