Andrea Corbridge is considering forming a portfolio consisting of Kalama Corp. a
ID: 2383275 • Letter: A
Question
Andrea Corbridge is considering forming a portfolio consisting of Kalama Corp. and Adelphia Technologies. The two corporations have a correlation of -0.1789, and their expected returns and standard deviations are as follows:
Kalama Corp.
Adelphia Technologies
Expected return (%)
14.86
23.11
Standard Deviation (%)
23.36
31.89
Calculate the frontier for all possible investment combinations of Kalama Corp. and Adelphia Technologies (from 0% to 100%, in 1% increments). Determine the optimal risky portfolio if the risk-free rate is 3%.
Andrea has $50,000 and wants to earn a 19% expected return on her investment. Describe the optimal manner in which to structure her portfolio-both in dollar amounts and in weights relative to her $50,000-based on the preceding information.
Andrea is also seriously considering buying some stock in Medford Barnett Corporation (MBC). The stock prices of MBC and the S&P for the past 25 months are tabulated below. Andrea estimates that MBC will earn a 14% return during the next year, and she expects the market to earn a 12% return during the same time period. In addition, she expects the relationship exhibited between the S&P and MBC to remain as it has in the past. Assuming that Andrea would be pulling MBC into a fully diversified portfolio, explain if buying the MBC shares a good decision.
Month
S&P
MBC
1
1198.41
58.04
2
1228.81
65.36
3
1220.33
48.48
4
1234.18
53.32
5
1191.33
57.59
6
1191.50
49.23
7
1156.85
55.57
8
1180.59
50.99
9
1203.60
64.10
10
1181.27
50.45
11
1211.92
50.65
12
1173.82
51.23
13
1130.20
46.68
14
1114.58
51.09
15
1104.24
50.75
16
1101.72
59.80
17
1140.84
52.78
18
1120.68
49.22
19
1107.30
53.47
20
1126.21
49.26
21
1144.94
48.55
22
1131.13
61.32
23
1111.92
48.06
24
1058.20
58.88
25
1050.71
46.19
Kalama Corp.
Adelphia Technologies
Expected return (%)
14.86
23.11
Standard Deviation (%)
23.36
31.89
Explanation / Answer
Using either the correlation coefficient or the covariance, the Variance on a Two-Asset Portfolio can be calculated as follows: (using "s" for standard deviation,so s^2 is variance, and p for the correlation coefficient...)
s^2port = (w1)^2 *s1^2 + (1-w1)^2 * s2^2 + 2w1(1-w1)*p*s1*s2
sub'ing in your values...
s^2port = .50^2 *.25^2 + .50^2 * .25^2 + 2(.5)(.5)*0.6*.25*.25
s^2port = 0.015625 + 0.015625 + .004875
s^2port = 0.036125
s port = 0.190066 <<std deviation is about 19% <<less than 25%
In the capital asset pricing model, the rate of return required for an asset in market equilibrium depends on the systematic risk associated with returns on the asset, that is, on the covarianceof the returns on the asset and the aggregate returns to the market.
Lenders to small numbers of borrowers (or kinds of borrowers) face unsystematic risk of default. Their loss due to default is credit risk, the unsystematic portion of which is concentration risk.