STATE 	         PROB     	MARKETRETURNS	SECURITY RETURNS
			                        S1	S2	S3
1	           .1	             -.15	-.10	-.25	-.225
2	           .3	              0	         0	-.10	.05
3	           .2	              .08	.053	.14	.12
4	           .4	              .20	.13	.20	.30

I have computed the expected return for each security, as well as the
expected return and standard deviation for the market, based on the
probability distributions shown.
I have also computed the covariance between each security and the market. 
As well as compute the beta for each security.  
What don't get is how to compute the required rate of return for each
security based on the capital asset pricing model, assuming that the
risk-free rate is 3%.

I am confused about what the rM from the CAPM formula should be Rc =
rf + ßc(rM - rf).  Just the regular market return which is provided or
something else?

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Request for Question Clarification by omnivorous-ga on 27 Jul 2005 16:29 PDT

rr64519 --

Rm is the market return for a diversified portfolio.  It represents
historic performance in most cases for as broad a basket of securities
as you can find -- often the S&P500, Wilshore 5000 or FTSE250.

So, you've calculated the market returns already here (as well as a
variance, which can be used for sensitivity analysis).

I think that you have everything that you need.  Recognize that it's
still hard to predict market returns -- both because of the variance
and because market volatility can change over time.  For example, many
analysts say that investors should expect lower stock returns today
than in the 1990s, due to lower interest rates AND lower market
volatility.

Best regards,

Omnivorous-GA

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Clarification of Question by rr64519-ga on 27 Jul 2005 16:37 PDT

So the answer I got when I calculated the expected return for the
market (.081) can be used to solve for each rate of return for each
security s1 an s2 and s3?

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Request for Question Clarification by omnivorous-ga on 27 Jul 2005 17:06 PDT

Yes, as that's the weighted-average of the expected returns.

Best regards,

Omnivorous-GA

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Clarification of Question by rr64519-ga on 27 Jul 2005 17:08 PDT

Thx

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Request for Question Clarification by omnivorous-ga on 27 Jul 2005 17:37 PDT

RR --

I can either answer this question "officially" or you may wish to
cancel it, just so that it's not sitting open on Google Answers.

Best regards,

Omnivorous-GA