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What would you invest in if you wanted the most efficient (lowest portfolio volatility) way to earn an expected return of 4%?

What would you invest in if you wanted the most efficient (lowest portfolio volatility) way to earn an expected return of 4%?

Essentials Of Investments
Essentials Of Investments
11th Edition
ISBN:9781260013924
Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Chapter1: Investments: Background And Issues
Section: Chapter Questions
Problem 1PS
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Suppose Company A's stock return has a volatility of 50% and its correlation with the Market Portfolio is 80%. Company B's stock return has a volatility of 40% and its correlation with the Market Portfolio is 25%. The expected return on the Market Portfolio is 7%, the volatility of the Market Portfolio is 20%, and the riskfree interest rate is 1%. Stocks A and B have zero correlation with each other. Suppose you can invest in four possible assets: Stock A, Stock B, the Market Portfolio and the riskfree government bond. What would you invest in if you wanted the most efficient (lowest portfolio volatility) way to earn an expected return of 4%? 100% in the riskfree bond 100% in stock B 50% stock A, 50% stock B 50% in riskfree bond, 50% in market portfolio 100% in the market portfolio 100% in stock A -100% (short) riskfree bond, + 200% in market portfolio -100% (short) market portfolio, +200% riskfree bond
Transcribed Image Text:Suppose Company A's stock return has a volatility of 50% and its correlation with the Market Portfolio is 80%. Company B's stock return has a volatility of 40% and its correlation with the Market Portfolio is 25%. The expected return on the Market Portfolio is 7%, the volatility of the Market Portfolio is 20%, and the riskfree interest rate is 1%. Stocks A and B have zero correlation with each other. Suppose you can invest in four possible assets: Stock A, Stock B, the Market Portfolio and the riskfree government bond. What would you invest in if you wanted the most efficient (lowest portfolio volatility) way to earn an expected return of 4%? 100% in the riskfree bond 100% in stock B 50% stock A, 50% stock B 50% in riskfree bond, 50% in market portfolio 100% in the market portfolio 100% in stock A -100% (short) riskfree bond, + 200% in market portfolio -100% (short) market portfolio, +200% riskfree bond
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