Financial Risk Manager Part 1
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You have been given the following data for a managed portfolio:
- Beta = 1.2
- Alpha = 1%
- Average return = 14%
- Risk-free rate = 4%
Calculate the return on the market portfolio basing your calculations on Jensen's measure of portfolio performance.
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TTanishq
A
15.45%
B
13%
C
11.5%
D
1.3%
Explanation:
Explanation
According to Jensen's measure of portfolio performance:
Jensen's Alpha Formula: αₚ = E(Rₚ) − [R_f + [E(R_m) − R_f]βₚ]
Where:
- αₚ = Alpha (1%)
- E(Rₚ) = Expected portfolio return (14%)
- R_f = Risk-free rate (4%)
- E(R_m) = Expected market return (unknown)
- βₚ = Beta (1.2)
Step-by-step calculation:
1% = 14% − [4% + 1.2(x − 4%)] 1% = 14% − [4% + 1.2x − 4.8%] 1% = 14% − 4% − 1.2x + 4.8% 1% = 14.8% − 1.2x 1.2x = 14.8% − 1% 1.2x = 13.8% x = 13.8% ÷ 1.2 x = E(R_m) = 11.5%
Therefore, the expected market return is 11.5%.
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