Andrea Corbridge is considering forming a portfolio consisting of Kalama Corp. a
ID: 2383438 • 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
1. 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.
Kalama Corp.
Adelphia Technologies
Expected return (%)
14.86
23.11
Standard Deviation (%)
23.36
31.89
Explanation / Answer
Assume, Kalama Corp. = X, and
Adelphia Technologies = Y
Let the percentage of amount to be invested in stock X be a Z then percentage of amount to be invested in stock Y would be (1 - Z). Expeted return of the portfolio is the weighted average return of the stock contained in it. As per question,
19 = 14.86Z + 23.11(1-Z)
19 = 14.86Z + 23.11 - 23.11Z
4.11 = 825Z
Z = 0.4982
Thus, 49.82% should be invested in Kalama Corp. and 50.18% in Adelphia Technologies.
Amount to be invested in Kalama Corp. = 50,000 x 49.82% = $24,910
Amount to be invested in Adelphia Technologies = 50,000 x 50.18% = $25,090