Portfolio Effect on Risk and Return
ERC INSTITUTE
Name : Kimberly Limanto
Student ID : 1004434
Course Name : SADBA
Title Of The Course : Investment and Fund Management
Date of Submission : 15 November 2012
Instructor Name : Mr. Johnson Yang
TABLE OF CONTENT
Title Page……………………………………………………1
Content…………………………………………………...…2
Problem…………………………………………………...3-4
Answers…………………………………………………..5-7
Problem:
The Financial advisor’s investment case: Inferior investment alternatives
Although investing requires the individual to bear risk, the risk can be controlled through the construction of diversified portfolios and by excluding any portfolio that offers an inferior return for a given amount of risk. While this concept seems obvious, one of your clients, Laura Spegele, is considering purchasing a stock she will bear. To convince her that the acquisition is not desirable, you want to demonstrate the trade-off between risk and return.
While it is impractical to show the trade-off for all possible combinations, you believe that illustrating several combinations of risk and return and applying the same analysis to the specific investment should be persuasive in discouraging the purchase. Currently, US Treasury bills offer 7%. Three possible stocks and their beta are as follows:-
Securities Expected Return Beta
Stock A 9% 0.6
Stock B 11% 1.3
Stock C 14% 1.5
Required I. What will be the expected return and beta for each of the following portfolios? a. Portfolio 1 through 4 : all of the funds are invested solely in one asset (the corresponding three stocks or the Treasury bill) b. Portfolio 5: one quarter of the funds are invested in each alternative c. Portfolio 6: one half of the funds are invested in stock A and the other half in stock C. d. Portfolio 7: One third of the funds are invested in each stock. II. Are any of the portfolios inefficient? III. Is there any combination of the Treasury
Name : Kimberly Limanto
Student ID : 1004434
Course Name : SADBA
Title Of The Course : Investment and Fund Management
Date of Submission : 15 November 2012
Instructor Name : Mr. Johnson Yang
TABLE OF CONTENT
Title Page……………………………………………………1
Content…………………………………………………...…2
Problem…………………………………………………...3-4
Answers…………………………………………………..5-7
Problem:
The Financial advisor’s investment case: Inferior investment alternatives
Although investing requires the individual to bear risk, the risk can be controlled through the construction of diversified portfolios and by excluding any portfolio that offers an inferior return for a given amount of risk. While this concept seems obvious, one of your clients, Laura Spegele, is considering purchasing a stock she will bear. To convince her that the acquisition is not desirable, you want to demonstrate the trade-off between risk and return.
While it is impractical to show the trade-off for all possible combinations, you believe that illustrating several combinations of risk and return and applying the same analysis to the specific investment should be persuasive in discouraging the purchase. Currently, US Treasury bills offer 7%. Three possible stocks and their beta are as follows:-
Securities Expected Return Beta
Stock A 9% 0.6
Stock B 11% 1.3
Stock C 14% 1.5
Required I. What will be the expected return and beta for each of the following portfolios? a. Portfolio 1 through 4 : all of the funds are invested solely in one asset (the corresponding three stocks or the Treasury bill) b. Portfolio 5: one quarter of the funds are invested in each alternative c. Portfolio 6: one half of the funds are invested in stock A and the other half in stock C. d. Portfolio 7: One third of the funds are invested in each stock. II. Are any of the portfolios inefficient? III. Is there any combination of the Treasury