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You are given the following information concerning 2 stocks

You are given the following information concerning 2 stocks...

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You are given the following information concerning 2 stocks: A B__ Expected Return 10% 14% Standard deviation of the expected return 3.0 5.0 Correlation coefficient of the returns - .1 a) What is the expected return on a portfolio consisting of 40% in stock A and 60% in stock B? Expected return E(r) = E(r) x weight of stock A + E(r) x weight of stock B .10 x .40 + .14 x .60 = .04 + .084 = 12.4% b) What is the standard deviation of this portfolio? [(.4) 2 (3) 2 + (.6) 2 (5) 2 + 2(.4) (.6) (3) (5) (-.1)] .5 = [.16 x 9 + .36 x 25 -.72] .5 = [1.44 +9 -.72] 5 = [9.72] .5 = 3.12 is the standard deviation c) Discuss the risk and return associated with (a) investing all your funds in stock A All funds in Stock A have a 3% risk with a 10% return
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Unformatted text preview: (b) all your funds in stock B These have a 5% risk with a 14% return (c) 40% in A and 60% in B These have a risk of 3.12% with a return of 12.4%. Option (a) has the least risk at 3% but the least return at only 10%, option (b) has the most risk at 5% with the most return at 14% and option (c) gives a higher return of 12.4% which is an additional 2.4% over Stock A with just a slightly more risk of 3.12%. Taking the risk per unit of return, option (c) is best as it gives the least risk per unit of expected return. (This answer must use the numerical information in your answers derived above)....
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