Consider the following table Stock FundBond Fund Rate of Return Probability 0.05

Question

Consider the following table Stock FundBond Fund Rate of Return Probability 0.05 0.25 0.40 0.30 Rate of Return -11% 17% 10% 7% Scenario Severe recession Mild recession Normal growth Boom -26% 11% 16% b. Calculate the values of mean return and variance for the stock fund. (Do not round intermediate calculations. Round "Mean return" value to 2 decimal place and "Variance" to 2 decimal places.) Mean return 6.4 % Variance c. Calculate the value of the covariance between the stock and bond funds. (Negative value should be indicated by a minus sign. Do not round intermediate calculations. Round your answer to 2 decimal places.) Covariance

Explanation / Answer

Mean = 0.05*(-26%) + 0.25*(-6%) + 0.4*11% + 0.3*16% = 6.40%

Variance = 0.05*(-26%-6.4%)2 + 0.25*(-6%-6.4%)2 + 0.4*(11%-6.4%)2 + 0.3*(16%-6.4%)2 = 1.27%

Mean of Bond = 0.05*(-11%) + 0.25*(17%) + 0.4*10% + 0.3*(-7%) = 5.6%

Covariance = 0.05*(-26%-6.4%)* (-11% - 5.6%) + 0.25*(-6%-6.4%) * (17% - 5.6%) + 0.4*(11%-6.4%) * (10% - 5.6%) + 0.3*(16%-6.4%)* (-7% - 5.6%) = -0.3664% = -0.00366

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