0.00 points Consider a risky portfolio. The end-of-year cash flow derived from t
ID: 2783080 • Letter: 0
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0.00 points Consider a risky portfolio. The end-of-year cash flow derived from the portfolio will be either $80,000 or $210,000, with equal probabilities of 0.5. The alternative riskless investment in T-bills pays 4%. a. If you require a risk premium of 11%, how much will you be willing to pay for the portfolio? (Round your answer to the nearest dollar amount.) Value of the portfolio S b. Suppose the portfolio can be purchased for the amount you found in (a). What will the expected rate of return on the portfolio be? (Do not round intermediate calculations. Round your answer to the nearest whole percent.) Rate of return % c·Now suppose you require a risk premium of 14%. What is the price you will be willing to pay now? (Round your answer to the nearest dollar amount.) Value of the portfolio $ ReferenceseBook &Resources; Learning Objective: 05-03 Determine the expected return and risk of portfolios that are constructed by combining risky assets with risk-free investments in Treasury bills. WorksheetExplanation / Answer
a) Let R denote the risky portfolio and p be its price.
E(r) = (0.5*80,000+ 0.5* 210,000 -p)/p = (145,000-p)/p
Now , if the portfolio requires a risk premium of 11% , then one will invest in the portfolio only if E(r)- risk free rate >=11%
(145,000-p)/p- 0.04 >= 11%
(145,000-p)/p >= 0.15
145000-p>= 0.15 P
145,000>= 1.15 P
P< = 145,000/1.15 < = 126,086.95
One will pay atmost $ 126,087 for the portfolio
b) Expected return = 145,000/126,087 - 1 = 15%
c) For a risk premium of 14%,
(145,000-p)/p - 0.04 >= 0.14
(145,000-p)/p >= 0.18
145,000- p >=0.18 p
145,000>= 1.18 P
P<= 145,000/1.18 = $ 122,881
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