P8-14 Portfolio analysis You have been given the expected return data shown in t
ID: 2709326 • Letter: P
Question
P8-14 Portfolio analysis You have been given the expected return data shown in the first table on three assets-F, G, and H- over the period 2016-2019. Expected return Asset F 2016 16%, 2017 17% 2018 18% 2019 19%- Asset G 2016 17% 2017 16% 2018 15% 2019 14% - Asset H 2016 14% 2017 15% 2018 16% 2019 17%
Using these assets, you have isolated the three investment alternatives shown in the following table.
Alternative investments 1- 100% of asset F Alternative 2 50% of asset F and 50% of asset G Alternative 3 50% of asset F and 50% of asset H
a. Calculate the expected return over the 4-year period for each of the three alternatives
b. Calculate the standard deviation of returns over the 4-year period for each of the three alternatives
c. Use your findings in parts a and b to calculate the coefficient of variation for each of the three alternatives
d. On the basis of your findings, which of the three investment alternatives do you recommend? why?
Explanation / Answer
a)
For alternative 1, Expected return would be equal to expected return of Asset F:
Year
Er
2016
16%
2017
17%
2018
18%
2019
19%
For alternative 2, Expected return would be equal to average return of Asset F and G
Year
Er
2016
16.50%
2017
16.50%
2018
16.50%
2019
16.50%
For alternative 3, expected return would be average return of asset G and H:
Year
Er
2016
15.50%
2017
15.50%
2018
15.50%
2019
15.50%
b) Average expected return = sum of expected returns/ no. of periods
Alternative A
AER = 70%/4 = 17.50%
Year
Er
D=Er- AER
D^2
2016
16%
-1.500%
0.0225%
2017
17%
-0.500%
1.5000%
2018
18%
0.500%
2.0000%
2019
19%
1.500%
1.5000%
70.00%
5.0225%
Variance = sum of D^2/(n-1)
= 5.0225%/(4-1)
=0.016742
Standard deviation = variance ^0.50
=0.016742^0.5
=12.94%
Alternative 2
AER = 66.00%/4 = 16.5%
Year
Er
D=Er- AER
D^2
2016
16.50%
0.000%
0.0000%
2017
16.50%
0.000%
0.0000%
2018
16.50%
0.000%
0.0000%
2019
16.50%
0.000%
0.0000%
66.00%
0.0000%
Variance = 0%/3 = 0
Standard deviation = 0
Alternative 3
AER = 62.00%/4 = 15.5%
Year
Er
D=Er- AER
D^2
2016
15.50%
0.000%
0.0000%
2017
15.50%
0.000%
0.0000%
2018
15.50%
0.000%
0.0000%
2019
15.50%
0.000%
0.0000%
62.00%
0.0000%
Variance = 0%/3 = 0
Standard deviation = 0
c)
Coefficient of variation = Standard deviation/ AER
Alternative 1= 12.94%/17.50%
=0.7394
Alternative 2 = 0%/16.50%
=0%
Alternative 3 = 0%/15.50%
=0%
d) I would recommend alternative 2 as it has the lowest coefficient of variation and good returns.
Year
Er
2016
16%
2017
17%
2018
18%
2019
19%
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