An investor is uncertain about how much to invest in two

Reference no: EM13380954

An investor is uncertain about how much to invest in two risky assets. The first asset (equity) yields an expected return of 10% and has a standard deviation equal to 8%. The second asset (debt) yields an expected return of 5% and has a standard deviation of 7%. The correlation coefficient between the returns is 0.1.

a. Compute the expected return and standard deviation of the following portfolios:

	Portfolio				Percentage in equity			Percentage in debt
	1				90			10
	2				50			50
	3				10			90
		Equity	Debt
R		0.1	0.05
SD		0.08	0.07
Var		0.0064	0.0049

Portfolio		% in equity	% in debt	Expected R		Var	SD
1		0.9	0.1	0.095		0.005	0.073
2		0.5	0.5	0.075		0.003	0.056
3		0.1	0.9	0.055		0.004	0.064

b. In the mean-standard deviation space, sketch the set of portfolios composed of debt and equity and identify portfolios 1, 2, and 3 on your graph.

c. Would a rational risk-averse investor ever choose portfolio 3? Would a rational risk-averse investor ever choose portfolio 1?

Reference no: EM13380954

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