Explanation

Jensen's alpha measures the abnormal return of a portfolio relative to its expected return based on the Capital Asset Pricing Model (CAPM). The formula for Jensen's alpha is:

$\alpha = R_p - [R_f + \beta_p \times (R_m - R_f)]$

Where:

• $R_p$ = Portfolio expected return = 8%
• $R_f$ = Risk-free rate = 5%
• $\beta_p$ = Portfolio beta = 0.5
• $R_m$ = Market expected return = 10%

Calculation: $\alpha = 8\% - [5\% + 0.5 \times (10\% - 5\%)]$ $\alpha = 8\% - [5\% + 0.5 \times 5\%]$ $\alpha = 8\% - [5\% + 2.5\%]$ $\alpha = 8\% - 7.5\%$ $\alpha = 0.5\%$

Therefore, Jensen's alpha for portfolio A is 0.5%, which corresponds to option A.

Key Points:

• Jensen's alpha represents the excess return earned by the portfolio manager beyond what would be expected given the portfolio's systematic risk
• A positive alpha indicates superior performance relative to the market
• The volatility information (20% for portfolio, 25% for market) is not needed for calculating Jensen's alpha