Chapter 7
Capital Allocation Between the Risky Asset and the RiskFree
Asset
This allows the students to explore the nature of the equation that was derived by maximizing the
investor's expected utility.
The student can illustrate an understanding of the variables
that supercedes the application of the equation in calculating the optimal proportion in P.
Difficulty: Difficult
43.
You are evaluating two investment alternatives.
One is a passive market portfolio with
an expected return of 10% and a standard deviation of 16%.
The other is a fund that is
actively managed by your broker.
This fund has an expected return of 15% and a
standard deviation of 20%.
The riskfree rate is currently 7%.
Answer the questions
below based on this information.
a.What is the slope of the Capital Market Line?
b.What is the slope of the Capital Allocation Line offered by your broker's fund?
c.Draw the CML and the CAL on one graph.
d.What is the maximum fee your broker could charge and still leave you as well off as if you
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 Spring '10
 PatrickMartinandVitaliAlexeev
 Economics, Slope, Standard Deviation, Utility, CML, riskfree rate

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