You are considering the risk return profile of two mutual funds for investment.

Question

You are considering the risk return profile of two mutual funds for investment. The relatively risky funds promisises an expected of 9% percent with a standered deviation of 12%. The relatively less risky funds promisis an expected return and standered deviation of 5% and 8% respectively a) which mutual funds will you pick if your objective is to minimize the probability of earning a negative return ? b) which mutual fund will you pick if your objective is to maximize the probability of earning a return between 8% and 12% ? You are considering the risk return profile of two mutual funds for investment. The relatively risky funds promisises an expected of 9% percent with a standered deviation of 12%. The relatively less risky funds promisis an expected return and standered deviation of 5% and 8% respectively a) which mutual funds will you pick if your objective is to minimize the probability of earning a negative return ? b) which mutual fund will you pick if your objective is to maximize the probability of earning a return between 8% and 12% ?

Explanation / Answer

a) for relatively risky return probability of earning a negtive return =P(X<0)=P(Z<(0-9)/12)=P(Z<-0.75)

=0.2266

for relatively less risky return probability of earning a negtive return =P(X<0)=P(Z<(0-5)/8)=P(Z<0.625)

=0.2660

as probability of a negative return is higher for less risky return ; we should chosse  relatively risky funds

b)

for relatively risky return probability of earning a return between 8% and 12% =P(8<X<12)

=P(-0.0833<Z<0.25)=0.5987-0.4668 =0.1319

for relatively less risky return probability of earning a return between 8% and 12% =P(8<X<12)

=P(0.375<Z<0.875)=0.8092-0.6462 =0.1630

as probability of earning a return between 8% and 12% is higher for relatively less risky therefore one should choose this

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