solution

For parts a and b, use a risk-free rate of 1.5% and a market risk premium is 5%.

1. The Cheesecake Factory, Inc (CAKE) currently trades for $36.71 per share. You expect the stock to pay a dividend of $1.7 per share in one year, and to trade for $37 per share immediately after the $1.7 dividend is paid. CAKE’s beta is 0.45.

   1. What is CAKE’s alpha?

   2. What portfolio P, combining the market portfolio and the risk-free asset,

      has exactly the same beta as CAKE? (You have to find the weight on the market portfolio, ????, and the weight on the risk-free asset, ????, such that your portfolio beta, ????, is equal to the beta of CAKE stock.)

2. Macy’s, Inc (M) plans to issue 10-year bonds. It believes the bonds will have a BB rating. BB bonds have a default probability of 2.2%, a 60% expected loss rate in the event of default and a beta of 0.17. Estimate the yield Macy’s will have to promise its investors.