As an individual investor, you have three funds to invest into. The first is an equity fund,
Question:
As an individual investor, you have three funds to invest into. The first is an equity fund, the second is a corporate bond fund, and the third is a money-market fund (hint: use it as the risk-free asset). Assume your personal degree of risk aversion is 4 (A=4). The correlation between the equity fund and the bond fund returns is 0.2.
Fund | Expected return | Risk |
Equity fund | 18% | 28% |
Corporate bond fund | 6% | 14% |
Money market fund | 2% |
1. Minimum variance portfolio:
a. Find weights of the equity and the corporate bond funds in the minimum variance portfolio.
b. Compute the expected return (E[r]) and the risk (standard deviation) of the minimum variance portfolio.
2.Optimal portfolio :
a.Find weights of the equity and corporate bond funds in the most efficient feasible portfolio that you can form from the equity and the corporate bond fund (Hint: you need to form the optimal portfolio).
b.Find the expected return (E[r]) and risk (standard deviation) of the optimal portfolio.
3.Complete portfolio :
a. Compute the slope of the Capital Allocation Line (CAL) using the optimal portfolio you formed in Q#2 as your risky portfolio.
b. Using the optimal portfolio from Q#2 as your risky portfolio, find weights of the risk-free asset and the risky portfolio in the complete portfolio if your personal degree of risk aversion is 4.
c. Compute the expected return (E[r]) and the risk (standard deviation) of your complete portfolio.
d. Compute weights of the equity and corporate bond fund in the complete portfolio.
Basic Business Statistics Concepts and Applications
ISBN: 978-0132168380
12th edition
Authors: Mark L. Berenson, David M. Levine, Timothy C. Krehbiel