Andre is an amateur investor who holds a small portfolio consisting of only four
ID: 2818885 • Letter: A
Question
Andre is an amateur investor who holds a small portfolio consisting of only four stocks. The stock holdings in his portfolio are shown in the following table: Percentage of Portfolio Expected Return 8.00% 14.00% 11.00% 3.00% Standard Deviation 29.00% 33.00% 36.00% 38.00% Stock Artemis Inc. Babish & Co Cornell Industries Danforth Motors 30% 35% 15% What is the expected return on Andre's stock portfolio? 7.58% 15.15% 10.10% 13.64% Suppose each stock in Andre's portfolio has a correlation coefficient of 0.40 ( = 0.40) with each of the other stocks The market's average standard deviation is approximately 20%, and the weighted average of the risk of the individual securities in the partially diversified four-stock portfolio is 34% If 40 additional, randomly selected stocks with a correlation coefficient of 0.30 with the other stocks in the portfolio were added to the portfolio, what effect would this have on the portfolio's standard deviation (op)? It would stay constant at 3490 It would gradually settle at approximately 20%. It would decrease gradually, settling at about 090. O It would gradually settle at approximately 50%.Explanation / Answer
1.
Correct option is > 10.10%
Stocks
Weight = W
Expected Return = R
W x R = Portfolio return
Artemis Inc
20%
8.00%
1.600%
Babish & Co
30%
14.00%
4.200%
Cornell Industries
35%
11.00%
3.850%
Danforth Motor
15%
3.00%
0.450%
Total = Portfolio Return
10.100%
2.
Correct option is > It would gradually settle at approximately 20%
As we add more security to portfolio with lower correlation than existing, then the standard deviation of portfolio falls down and approaches to standard deviation near to market portfolio.
Stocks
Weight = W
Expected Return = R
W x R = Portfolio return
Artemis Inc
20%
8.00%
1.600%
Babish & Co
30%
14.00%
4.200%
Cornell Industries
35%
11.00%
3.850%
Danforth Motor
15%
3.00%
0.450%
Total = Portfolio Return
10.100%