Assume an economy in which there are three securities: Stock A with rA = 10% and

Question

Assume an economy in which there are three securities:

Stock A with rA = 10% and sA = 10%;

Stock B with rB = 15% and sB = 20%;

and a riskless asset with rRF = 7%.

Stocks A and B are uncorrelated (rAB = 0). Which of the following statements is most CORRECT?

a. The investor's risk/return indifference curve will be tangent to the CML at a point where the expected return is in the range of 7% to 10%. b. The expected return on the investor's portfolio will probably have an expected return that is somewhat above 15% and a standard deviation (SD) of approximately 20%. c. The expected return on the investor's portfolio will probably have an expected return that is somewhat below 10% and a standard deviation (SD) of approximately 10%. d. Since the two stocks have a zero correlation coefficient, the investor can form a riskless portfolio whose expected return is in the range of 10% to 15%. e. The expected return on the investor's portfolio will probably have an expected return that is somewhat below 15% and a standard deviation (SD) that is between 10% and 20%.

Explanation / Answer

Answer - E As the maximum return among the three securities is 15%, the expected return of the portfolio will be below 15% (a minimum addition of any two stocks with Stock B will bring down the return below 15% and the investor cannot attaing a return of more than 15% even if he invests 100% in Stock B). Same is the case with standard deviation

Related Questions

Navigate

• Browse (All)
• Browse A
• Subjects

---

---

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.