Assume that the risk-free rate is rf = 4% and the investor's risk aversion coefficient is A
Question:
Assume that the risk-free rate isrf= 4% and the investor's risk aversion coefficient is
A= 4.
1. Consider return targets ranging from 6% to 26% (in increments of 2%). For each return
target, solve for the portfolio that yields this expected return and that has the smallest
standard deviation of returns possible. Plot the efficient frontier.
2. Solve for the Tangency portfolio's weights. Report the expected return and standard
deviation of this portfolio. Plot the tangency line. What is the maximum Sharpe ratio
possible?
3. Consider a portfolio with a weight ofy(%) on the Tangency portfolio and 1? yon
the risk free bond. Find the valuey ?that maximizes the investor's expected utility.
Use the weights of the Tangency portfolio found in question 2., find the weight of each
individual asset in the optimal portfolio.
4. Solve the utility maximization problem directly (that is, find the set of weights that
maximize the expected utility functionU=E[r]?1
2A?V ar(r)). Verify if these weights
are the same as the ones found in question 3.
5. Suppose that you're not allowed to short any assets. Does this change the optimal
portfolio? How much (in percentage) expected utility is lost because of this restriction?
Financial reporting, financial statement analysis and valuation a strategic perspective
ISBN: 978-0324789416
7th Edition
Authors: James M Wahlen, Stephen P Baginskl, Mark T Bradshaw