Assume that the expected rate of return on the market portfolio is 23% and the r

Question

Assume that the expected rate of return on the market portfolio is 23% and the rate of return on T-bills (the risk-free rate) is 7%. The standard deviation of the market is 32%. Assume that the market portfolio is efficient.
(a) What is the equation of the capital market line?
(b) i. If an expected return of 39% is desired, what is the standard deviation of the corresponding portfolio?
ii. If you have $100 to invest, how should you allocate it to achieve the above portfolio?
(c) If you invest $300 in the risk-free asset and $700 in the market portfolio, how much money should you expect to have at the end of the year?

Explanation / Answer

a)E = rf + ( Em-rf /m)

E = 7 + (23-7/32)

E = 7 + /2 = 2E = 14+

b)if E = 39% then from eqn = 2E-14 = 64%

c) return on risk free asset = 300*(0.07) = $21

return from market portfolio = $700*(0.23) = $161

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