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FNCE30001 Study Guide - Midterm Guide: Risk Aversion, Financial Adviser, Standard Deviation

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lavendermoose527
21 Nov 2018
School
University of Melbourne
Department
Finance
Course
FNCE30001
Professor
Brown

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Document Summary

333-301 semester 1, 2009 midterm with solutions. Below are the aggregated solutions to both versions of the exam. Questions 1 & 2 use the following information: You are an investment advisor, and you have calculated what you believe to be an optimal, well-diversified risky portfolio. It has an expected return of 9% and a standard deviation of. The risk-free rate is 3%: a client asks you to determine the optimal portfolio for him. Asked what his risk tolerance is, he tells you that he is willing to have a portfolio with up to. Additionally, she notes that as a small investor, she is unable to borrow money to leverage her investments. With this in mind, she believes she should invest in an index fund instead of your risky portfolio. Is she correct: yes, if she has sufficiently low risk-aversion, yes, if she has sufficiently high risk-aversion, yes, regardless of her risk-aversion, no.

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Related Questions

2. Suppose that you have a risky asset that provides you with an expected return of 12% per year with 20% volatility (standard deviation). Con-sider a risk-free asset that provides you with a 3% risk-free return.

(a) If you have $100,000 and invest 80% into the risky asset and 20% into the risk-free asset, what is the expected return and risk of your portfolio?

(b) How much will your portfolio be worth if the realized return on the risky asset is 15%?

(c) If you cannot borrow money, what is the maximum possible ex-pected return on your portfolio, and what is the minimum?

(d) If you are allowed to borrow money at the risk-free rate, how can you get a portfolio with an 18% expected return and what is the risk of this portfolio?

Consider a risky portfolio that offers a rate of return of 15% per year with a standard deviation of 20% per year. Suppose an investor is indifferent between investing in the risky portfolio and investing in a risk free asset earning 8% per year.
a) What is the investor's risk aversion coefficient?
b) If allowed to invest in a combination of the risky portfolio and the risk free asset, what proportion would the investor hold in the risky portfolio?
c) What is the expected rate of return and the standard deviation of the rate of return on the optimally chosen combination?
d) What would be the investor's certainty equivalent return for the optimally chosen combination?

Your uncle wants to create a portfolio based on two stocks, Google and Apple. Google has an expected return of 18% and a standard deviation of 20%. Apple has an expected return of 14% and a standard deviation of 14%. The correlation coefficient between the returns of Google and Apple is 0.4. The risk free rate is 10%.

a) Help your uncle construct the optimatl risky portfolio. What is the weight of Google in the optimal risky portfolio?
b) What is the expected return of the optimal risky portfolio?
c) Your uncle wants to take on more risk – he wants his portfolio to have a 20% standard deviation. He suggests holding only Google in his portfolio. Without calculations, briefly explain how your uncle can do better.