IPM Problem set 3(a) - BUS 415 Investment and Portfolio...

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BUS 415: Investment and Portfolio Management SPRING 2010 Problem Set 3 (Team work) Problem 1 : Capital Allocation with Risky and Riskless Assets Consider the two securities listed below: Risky Security: E ( R ) = 10% , σ = 20%. Riskfree Security: Rf = 5%. You wish to form a portfolio combining the risky security and the risk-free security such that you earn an expected return of 15%. 1. (2 points) What weights would you need to place in the risky and the risk-free securities to earn a 15% expected return? 2. (2 points) What is the standard deviation of this portfolio? 3. (2 points) Draw the capital allocation line (CAL). Label the points and the axes clearly. 4. (2 points) Now, suppose that instead of one risky security and one risk-free security, you can invest in two risky securities. Security 1: E ( R ) = 10% , σ 1 = 20%. Security 2: E ( R ) = 5% , σ 2 = 5%, and ρ = 0.3. What weights would you need to place in the two risky securities to earn a 15% expected return? 5. (2 points) What is the standard deviation of this portfolio?
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