QUESTION TWO ( (5 Points)

1. Discuss why international diversification reduces portfolio risk. Specifically, why would you expect low correlation in the rates of return for domestic and foreign securities?
2. Why is a policy statement important?

3. The following are annual rates of return for Palestinian Government T-bills and U.K. common stocks.

Year	Palestine government T-bill	U.K. common stocks
2003	0.063	0.150
2004	0.081	0.043
2005	0.076	0.374
2006	0.090	0.192
2007	0.085	0.106

Required:

1. Compute the arithmetic mean rate of return and standard deviation of rates of return for the two series.

(b) Discuss these two alternative investments in terms of their arithmetic average rates of return, their absolute risk, and their relative risk.

(c) Compute the geometric mean rate of return for each of these investments. Compare the arithmetic mean return and geometric mean return for each investment and discuss this difference between mean returns as related to the standard deviation of each series.