Financial Risk Manager Part 1

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Explanation:

C is correct. The Fama French model can be calculated as:

$R_{\text{GRI}} - R_f = \alpha + \beta_{\text{MKT}} \cdot (R_{\text{mkt}} - R_f) + \beta_{\text{GRI,HML}} \cdot R_{\text{HML}} + \beta_{\text{GRI,SMB}} \cdot R_{\text{SMB}}$

Since the return of GRI is given at $7.8%$, we can solve for alpha using the following equation:

$`$ 7.8`% - 1.50% = \alpha + 1.25 \cdot (6.00% - 1.50%) + (-0.45) \cdot 2.50% + 2.1 \cdot 1.00%$$

Solving for alpha yields $-0.30\%$ .

A is incorrect. This uses the absolute value of the negative beta of the HML factor.
B is incorrect. This forgets to subtract the risk-free rate from the market return before multiplying by beta, and therefore overstates the Fama-French return.
D is incorrect. This forgets to subtract the risk-free rate on the left side of the equation.

Learning Objective: Describe and apply the Fama-French three-factor model in estimating asset returns.

Explanation:

C is correct. The Fama French model can be calculated as:

$R_{\text{GRI}} - R_f = \alpha + \beta_{\text{MKT}} \cdot (R_{\text{mkt}} - R_f) + \beta_{\text{GRI,HML}} \cdot R_{\text{HML}} + \beta_{\text{GRI,SMB}} \cdot R_{\text{SMB}}$

Since the return of GRI is given at $7.8%$, we can solve for alpha using the following equation:

$`$ 7.8`% - 1.50% = \alpha + 1.25 \cdot (6.00% - 1.50%) + (-0.45) \cdot 2.50% + 2.1 \cdot 1.00%$$

Solving for alpha yields $-0.30\%$ .

A is incorrect. This uses the absolute value of the negative beta of the HML factor.
B is incorrect. This forgets to subtract the risk-free rate from the market return before multiplying by beta, and therefore overstates the Fama-French return.
D is incorrect. This forgets to subtract the risk-free rate on the left side of the equation.

Learning Objective: Describe and apply the Fama-French three-factor model in estimating asset returns.

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Q-34. A portfolio manager at a mutual fund is evaluating the end-of-year returns of the stocks in the portfolio and comparing them to those predicted by the Fama-French model. The manager considers stock GRI, which had a return of 7.8% over the previous year and had a beta to the market of 1.25. The factor betas for the stock and the returns of each factor are presented in the following table:

Factor Factor beta 1-year factor return
HML factor $-0.45$ `$2.50`%$
SMB factor `$2.10`$ `$1.00`%$

The market had a return of `$6.00`% $over the previous year and the risk-free rate of interest remained constant at `$ 1.50`%$. What was the alpha of stock GRI for the previous year?

Factor	Factor beta	1-year factor return
HML factor	$-0.45$	`$2.50`%$
SMB factor	`$2.10`$	`$1.00`%$

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UAnonymous

Last updated: July 10, 2026 at 05:44

$-2.55\%$

$-2.18\%$

$-0.30\%$

$1.20%$