The five largest tech companies (Google, Apple, Facebook,Amazon, Microsoft or GAFAM) now make up 20% of the S&P 500 (themarket portfolio). This problem aims to quantify the consequence ofthis increasing concentration for investors.

We assume that the entire security market is made of only threetypes of assets: a risk-free asset (rf = 3%) and two riskysecurities G (a portfolio composed by investing in the five GAFAMstocks) and B (a portfolio composed by investing in the rest of theS&P 500, i.e., it is composed of 495 different stocks). You canthink of G and B as stocks.

There are 500 shares of G is worth $10 per share, and 10,000shares of B worth $2 per share. G and B both generate expectedreturns equal to 7%. The volatility of G is equal to 22.6% and thevolatility of B is equal to 5.9%. The correlation of the returns ofG and B is equal to 0.76.

1) One of your friend thinks that he’s not affected by theincreasing role of the GAFAM, and that it is still possible to finda feasible portfolio with a return of 6% and a volatility lowerthan 6% What do you tell him? Show that the maximum value for thevolatility of the market portfolio for this type of portfolio to beimplementable in practice is 8%. Would it have been feasible toimplement such a portfolio if G was worth $2 per share? Hint:According to the CAPM, which strategies yield the bestreturn-volatility ratio?