LOYOLA COLLEGE (AUTONOMOUS), CHENNAI – 600 034
B.A. DEGREE EXAMINATION –ECONOMICS
SUPPLEMENTARY EXAMINATION – JUNE 2007
EC 6600 - PORTFOLIO MANAGEMENT
Date & Time: 25/06/2007 / 9:00 - 12:00
Dept. No.
PART A
Max. : 100 Marks
(5 X 4 = 20 marks)
Answer any FIVE questions in 75 words each. Each question carries FOUR marks.
1. Define portfolio management.
2. The stock of BELL company is currently selling at $2.50. The risk free rate is 5 per cent.
What is the price of a one-year forward on BELL stock assuming that the firm does not pay
dividends over the coming year?
3. The current annual interest rate in India is 6% while its US counterpart is 4%. The price of
$1 in the spot market is Rs.45. Price a one-year forward contract for the Rupee-Dollar
exchange rate.
4. Explain the joint hypothesis problem in the context of efficient market hypothesis.
5. Differentiate between systematic and non-systematic risks.
6. State Samuelson’s continuous equilibrium model.
7. Calculate expected return and the standard deviation of returns for a stock with the
following probability distribution:
Condition
returns (%)
Occurrence
probability
-30
-16
0
18
22
24
28
0.10
0.15
0.20
0.20
0.15
0.15
0.05
PART B
(4 X 10 = 40 marks)
Answer any FOUR questions in 250 words each. Each question carries TEN marks.
8. Differentiate between forward contracts and futures contracts.
9. What are the various types of managed portfolios?
10. Explain the various functions of portfolio management.
11. The current stock price of Leyland is Rs.50. Both a call and a put option are to be written on
Leyland’s equity with an expiry of 6 months and an exercise price of Rs.48. Assume that
volatility is 20% per annum and risk-free interest rate is 10% per annum. Determine the
price of the call and put options using the Black-Scholes model.
12. Using a numerical example show how a currency swap can result in a win-win solution for
the two parties to the swap contract.
13. Consider the following single period binomial process for a given stock price.
The current stock price is $25 and with probability 0.5 this price will rise to $30.
With the complementary probability, the price will fall to $20. Assuming that the
risk-free rate is 10% and the exercise price is $26 determine the price of a oneperiod European call option and a one-period European put option.
14. Explain Harry Markowitz’s theory of portfolio diversification.
PART C
(2 X 20 = 40 marks)
Answer any TWO questions in 900 words each. Each question carries TWENTY marks.
15. Explain Arbitrage Pricing Theory using factor models. How does it overcome
the shortcomings of the Capital Asset Pricing Model?
16. What are the three forms of market efficiency? Discuss the various empirical
evidences in favour of and against market efficiency.
17. a) Describe the fundamentals of mean-variance analysis. Use the ‘Capital
Market Line’ of the Capital Asset Pricing Model (CAPM) to explain the
notion of the market price of risk.
(10 marks)
b) The following table presents the expected returns and variances for three
stocks and the market index. The risk-free interest rate is 4% and the stock
market is in CAPM equilibrium.
(10 marks)
Name
Expected Return
Expected Variance
Cutmore plc
11%
225%
Gates plc
14%
289%
Hunting plc
21%
529%
Market index
13%
144%
i) What are the ‘beta’ values for each of the three stocks? Explain which
stock would be the best investment if the market was expected to rise?
ii) What are the covariances of the returns of each of these stocks with the
returns on the market?
iii) What is the numerical equation of the capital market line (CML) for this
market? Identify whether the stocks plot on the CML and explain what
you conclude from this.
18. Explain how the State Preference Model is used in the pricing of derivatives
such as options.
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