Question

Consider the following information on a portfolio of three stocks: TTT Probability of State of State of Stock A Stock B Stock C Economy Rate of Return Rate of Return Rate of Return Economy 15 Вoom 04 .33 .55 Normal 60 09 13 19 Bust 25 15 -14 -28 a. If your portfolio is invested 40 percent each in A and B and 20 percent in C, w the portfolio's expected return? The variance? The standard deviation? (Do not intermediate calculations. Round your variance answer to 5 decimal places 16161. Enter your other answers as a percent rounded to 2 decimal places 32.16.) b. If the expected T-bill rate is 3.75 percent, what is the expected risk premium on t portfolio? (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.) a. Expected return Variance Standard deviation b. Expected risk premium %

Answer 1

0.11 0.15 weighted return state of economy rate of return if state occurs (weight x return) Expected return probability expected return Stock A Stock B Stock C Stock A Stock B Stock C (sum of weighted return) | Boom 0.04 0.33 0.55 0.02 0.13 25.80% 3.87% Normal 0.09 0.13 0.19 0.04 0.05 0.04 12.60% 0.60 7.56% Bust 0.15 -0.14 -0.28 0.06 -0.06 -0.06 -5.20% 0.25 -1.30% 10.13% Weight 40.00% 40.00% 20.00% deviation (weighted return- deviation 2 deviation ^2x probability expected return) 15.67% 2.46% 0.003683234 2.47% 0.06% 0.00036605 -15.33% 2.35% 0.00587522 Variance 0.0099 Portfolio expected return = 10.13% Variance = 0.00992 Standard deviation = variance^0.5 = 9.96% b) Expected risk premium = (10.13%-3.75%) = 6.38%