Suppose Neha is choosing how to allocate her portfolio between two asset classes: risk-free government bonds and a risky group of diversified stocks. The following table shows the risk and return associated with different combinations of stocks and bonds. Combination A B C D E There is a Fraction of Portfolio in Diversified Stocks (Percent) 0 25 50 75 100 Average Annual Return (Percent) 2.50 4.50 6.50 8.50 Accept lower average annual rate of return relationship between the risk of Neha's portfolio and its average annual return. 10.50 Suppose Neha currently allocates 75% of her portfolio to a diversified group of stocks and 25% of her portfolio to risk-free bonds; that is, she chooses combination D. She wants to reduce the level of risk associated with her portfolio from a standard deviation of 15 to a standard deviation of 5. In order to do so, she must do which of the following? Check all that apply. Sell some of her bonds and use the proceeds to purchase stocks Sell some of her stocks and use the proceeds to purchase bonds Place the entirety of her portfolio in bonds Standard Deviation of Portfolio Return (Risk) (Percent) 0 5 10 15. 20
Suppose Neha is choosing how to allocate her portfolio between two asset classes: risk-free government bonds and a risky group of diversified stocks. The following table shows the risk and return associated with different combinations of stocks and bonds. Combination A B C D E There is a Fraction of Portfolio in Diversified Stocks (Percent) 0 25 50 75 100 Average Annual Return (Percent) 2.50 4.50 6.50 8.50 Accept lower average annual rate of return relationship between the risk of Neha's portfolio and its average annual return. 10.50 Suppose Neha currently allocates 75% of her portfolio to a diversified group of stocks and 25% of her portfolio to risk-free bonds; that is, she chooses combination D. She wants to reduce the level of risk associated with her portfolio from a standard deviation of 15 to a standard deviation of 5. In order to do so, she must do which of the following? Check all that apply. Sell some of her bonds and use the proceeds to purchase stocks Sell some of her stocks and use the proceeds to purchase bonds Place the entirety of her portfolio in bonds Standard Deviation of Portfolio Return (Risk) (Percent) 0 5 10 15. 20
Essentials Of Investments
11th Edition
ISBN:9781260013924
Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Chapter1: Investments: Background And Issues
Section: Chapter Questions
Problem 1PS
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Transcribed Image Text:The table uses the standard deviation of the portfolio's return as a measure of risk. A normal random variable, such as a portfolio's return, stays
within two standard deviations of its average approximately 95% of the time.
Suppose Neha modifies her portfolio to contain 50% diversified stocks and 50% risk-free government bonds; that is, she chooses combination C. The
average annual return for this type of portfolio is 6.5%, but given the standard deviation of 10%, the returns will typically (about 95% of the time)
vary from a gain of
to a loss of
Transcribed Image Text:Suppose Neha is choosing how to allocate her portfolio between two asset classes: risk-free government bonds and a risky group of diversified stocks.
The following table shows the risk and return associated with different combinations of stocks and bonds.
Combination
A
B
с
D
E
There is a
Fraction of Portfolio in Diversified
Stocks
(Percent)
0
25
50
75
100
Average Annual
Return
(Percent)
2.50
4.50
6.50
8.50
Place the entirety of her portfolio in bonds
10.50
relationship between the risk of Neha's portfolio and its average annual return.
Accept a lower average annual rate of return
Sell some of her bonds and use the proceeds to purchase stocks
Sell some of her stocks and use the proceeds to purchase bonds
Standard Deviation of Portfolio Return
(Risk)
(Percent)
0
5
10
15
20
Suppose Neha currently allocates 75% of her portfolio to a diversified group of stocks and 25% of her portfolio to risk-free bonds; that is, she chooses
combination D. She wants to reduce the level of risk associated with her portfolio from a standard deviation of 15 to a standard deviation of 5. In
order to do so, she must do which of the following? Check all that apply.
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Step 1: How do you compute portfolio returns.
VIEWStep 2: a) Compute the range of returns at a 95% confidence interval.
VIEWStep 3: b) explain the relationship between Neha's Portfolio risk and returns.
VIEWStep 4: c) What should Neha do to reduce her portfolio standard deviation from 15 to 5.
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