Assume that you manage a risky portfolio with an expected rate of return of 12%
ID: 2738890 • Letter: A
Question
Assume that you manage a risky portfolio with an expected rate of return of 12% and a standard deviation of 47%. The T-bill rate is 4% A client prefers to invest in your portfolio a proportion (y) that maximizes the expected return on the overall portfolio subject to the constraint that the overall portfolio's standard deviation will not exceed 35%. What is the investment proportion, y? (Do not round intermediate calculations. Round your answer to 2 decimal places.) Investment proportion y % What is the expected rate of return on the overall portfolio? (Do not round intermediate calculations. Round your answer to 2 decimal places.) Rate of return %Explanation / Answer
Answer: (a) Portfolio standard deviation = y x 47%.
If your client wants a standard deviation of 35%, then
y = (35%/47%) = 0.7447 = 74.47% in the risky portfolio.
Answer:(b) Mean return = Rf+(expected return-Risk free)*Proportion of y
4% + (12% - 4%)y
= 4% + 8% (0.7447)
= 4% + 5.9576%
=9.9576 % or 9.96% (Rounded to two decimal place)