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8. Consider the following Scenario Analysis: Scenario Probability Stock Return Bond Return Recession 0.2 - 4%...

8. Consider the following Scenario Analysis: Scenario Probability Stock Return Bond Return Recession 0.2 - 4% +12% Normal Economy 0.6 +12% +8% Strong Economy 0.2 +20% +5% Assume you have a portfolio that is weighted 40% in stocks and 60% in bonds. a) What are the expected rate of return and standard deviation of the portfolio? (12 points) b) Please explain BRIEFLY in words whether a rational investor would prefer to invest in the portfolio, in stocks only, or in bonds only. (5 points)

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Answer #1

Correlation=covariance/(std of stock*std of bond)
a) Expected return of portfolio=9.08%
std of portoflio=1.82%

b)Rational investor will prefer to invest in the portfolio rather than Stocks or bonds in total because for the portfolio the standard deviation is lesser than individual stock and bond and expected return is also higher than Bonds

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