Prior to beginning work on this discussion forum, read Chapter 9, Capital Market Theory and Asset Pricing Models in the textbook Jones, C. P., & Jensen, G. R. (2020). Investments: Analysis and management (14th ed.).

Your client has asked you to create an optimal portfolio. You are planning to recommend the portfolio of equities and Treasury securities you purchased in Stock-Trak. Prepare a report for the client that justifies and explains the equity and bond portfolio for the client based on the CMT.

In your Capital Market Theory Report, include the following:

Create a table and list the values of 20 stocks you own and the Treasury securities that are in the portfolio. Include in the table

o the weight of each security.

o the beta of each security, as reported in Stock-Trak; and

o the overall weight in equities versus bonds.

o For purposes of this assignment, calculate the weights based on the blended portfolio of bonds and equities

Explain the allocation of the portfolio between Treasury securities and the equity portfolio in terms of risk preference.

Plot the equation for the capital market line. (Use the risk-free rate from the Treasury securities you purchased and the return of the portfolio on the combined equities from your Week 3 paper.)

o Label the axes and the intercept.

o Label the approximate location of this portfolio on the capital market line.

Explain to the client what the capital market line represents.

Explain to the client how they could leverage their portfolio by purchasing more equity using margin. Provide an example and an estimate of where this portfolio would be on the capital market line.

Using the betas and the historical average market returns, calculate the expected returns for each company in the portfolio using the capital asset pricing model (CAPM).

On a new graph, plot the security market line and each of the 20 equities.

Explain to the client which of the securities are overvalued and which undervalued.

Explain to the client what happens to the price and return of a security when investors recognize it as undervalued.

Create the equation for the new security market line.

Assume the risk-free rate shifts upwards by 100 basis points. Identify the impact of the change in risk-free rates on the over- or undervalued securities in the portfolio. Explain the arbitrage pricing theory (APT) to the client. Include the following in your explanation:

o The similarities and differences of the arbitrage pricing theory versus the capital market theory to the client.

o The five macroeconomic variables that researchers have identified as useful to incorporate into the APT model.

o Choose one variable and identify one equity security in the portfolio that may be influenced by this variable to a greater degree than the other equity securities in the portfolio. Explain how the client could over- or underweight this single security in the portfolio to either “sterilize” the portfolio to the risk from this variable or to outperform the market based on correct forecasts of this variable.