The following data applies to Questions 4 to 10. A pension fund manager is consi

Question

The following data applies to Questions 4 to 10. A pension fund manager is considering three investment options. The first is a stock fund, the second is a corporate bond fund, and the third is a T-bill money market fund (the risk-free asset) that yields a sure rate of 5.5%. The probability distributions of the risky funds are Expected return (%) Stock fund (S) 15 Bond fund (B) The correlation between the fund returns is 0.15 Standard Deviation (%) 32 23 What is the covariance of the stock fund and the bond fund (in decimal) 0.00011 O 1.1 0.011

Explanation / Answer

Correct option is > 0.011

Covariance of stock and bond fund = Correlation between funds x Standard deviation of stock fund x Standard deviation of bond fund

Covariance of stock and bond fund = 0.15 x 32% x 23%

Covariance of stock and bond fund = 0.011

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