6) Suppose that you are allocating your investment capitals between risk free asset and risky asset....
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6) Suppose that you are allocating your investment capitals between risk free asset and risky asset. The expected returns of risk free and risky assets are 5% and 12%, respectively. The standard deviation of the risky asset is 25%. Your utility level can be described by the utility function, U(E(r), (r)) = E(r) - 0.5 A. (r). A) On the plain of expected returns and standard deviation, draw the capital allocation line and plot the points that indicate the risk free asset and the risky asset. What is the Sharpe ratio of the risky asset? B) Assume that your risk aversion is four (i.e., A = 4). On the above figure that you draw, illustrate the indifference curve that corresponds to your possible maximum utility. What percentage of your capital is allocated to the risky asset? If your risk aversion is one (A = 1), how does your complete portfolio change? (0.12-0.05)/(4*0.25^2) = 0.28 (28%) => (0.12-0.05)/(1*0.25^2) = 1.12 (112%): the lower risk aversion, the riskier investments 6) Suppose that you are allocating your investment capitals between risk free asset and risky asset. The expected returns of risk free and risky assets are 5% and 12%, respectively. The standard deviation of the risky asset is 25%. Your utility level can be described by the utility function, U(E(r), (r)) = E(r) - 0.5 A. (r). A) On the plain of expected returns and standard deviation, draw the capital allocation line and plot the points that indicate the risk free asset and the risky asset. What is the Sharpe ratio of the risky asset? B) Assume that your risk aversion is four (i.e., A = 4). On the above figure that you draw, illustrate the indifference curve that corresponds to your possible maximum utility. What percentage of your capital is allocated to the risky asset? If your risk aversion is one (A = 1), how does your complete portfolio change? (0.12-0.05)/(4*0.25^2) = 0.28 (28%) => (0.12-0.05)/(1*0.25^2) = 1.12 (112%): the lower risk aversion, the riskier investments
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Related Book For
Understanding Financial Accounting
ISBN: 978-1118849385
1st Canadian Edition
Authors: Christopher Burnley, Robert Hoskin, Maureen Fizzell, Donald
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