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Consider the following capital market: a risk-free asset yielding 1.00%

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Consider the following capital market: a risk-free asset yielding 1.00% per year and a;mutual fund consisting of 60% stocks and 40% bonds. The expected return on stocks is;9.75% per year and the expected return on bonds is 2.75% per year. The standard;deviation of stock returns is 28.00% and the standard deviation of bond returns 8.50%.;The stock, bond and risk-free returns are all uncorrelated.;1. What is the expected return on the mutual fund?;2. What is the standard deviation of returns for the mutual fund?;Now, assume the correlation between stock and bond returns is 0.60 and the correlations;between stock and risk-free returns and between the bond and risk-free returns are 0 (by;construction, correlations with the risk-free asset are always zero).;3. What is the standard deviation of returns for the mutual fund? Is it higher or lower than;the standard deviation found in part 2? Why?;Now, assume that the standard deviation of the mutual fund portfolio is exactly 19.75%;per year and a potential customer has a risk-aversion coefficient of 3.25.;4. What correlation between the stock and bond returns is consistent with this portfolio;standard deviation?;5. What is the optimal allocation to the risky mutual fund (the fund with exactly 19.75%;standard deviation) for this investor?;6. What is the expected return on the complete portfolio?;7. What is the standard deviation of the complete portfolio?;8. What is the Sharpe ratio of the complete portfolio?;Question #2: Markowitz Optimization;Open the associated Excel file named QPS2 Data Fall 2014 Problem 2 in My Course;Content: Problem Set Spreadsheets. The data file includes 60 months of returns for 11;exchange traded funds, their names and ticker symbols follow

 

Paper#25816 | Written in 18-Jul-2015

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