Question 1 a. You are given the following characteristics for two portfolios: Portfolio Characteristics Portfolio 1 Portfolio 2 Expected return 5% 8% Standard deviation 13% 9% Beta 1.1 -0.2 R2 of 60 months of portfolio return regressed on the market return 84% 61% Assume that the model used to determine these characteristics is the Single Index model. The standard deviation of the market return is 11%. i. Explain which portfolio is more diversified. (2 marks) ii. What is correlation between portfolio 2 and the market? (2 marks) iii. What is the proportion of systematic risk for each Portfolio? (2 marks) iv. What is the covariance between Portfolio 1 and 2? (2 marks) v. What does R-squared suggest the level of unsystematic risk in Portfolio 1 is? (2 marks) vi. What is the difference between the Single Index Model and the Market Model? (4 marks) b. Describe Zero-beta CAPM model and outline characteristics of the zero-beta portfolio. Do portfolios that contain a risk-free asset plot on the Zero-beta line? Explain and show graphs where appropriate.