Consider the following information on three stocks: Rate of Return if State Occu

Question

Consider the following information on three stocks:

Rate of Return if State Occurs

State of Probability of
Economy State of Economy Stock A Stock B Stock C
Boom 0.35 0.45 0.35 0.45
Normal 0.5 0.29 0.14 0.04
Bust 0.15 0.14 -0.16 -0.65


(a)
If your portfolio is invested 31 percent each in A and B and 38 percent in C, the portfolio expected return is ???? percent (Do not include the percent sign (%). Round your answer to 2 decimal places. (e.g., 32.16)). The variance is ???? (Round your answer to 4 decimal places. (e.g., 32.1616)) and standard deviation is ???? percent. (Do not include the percent sign (%). Round your answer to 2 decimal places. (e.g., 32.16))



(b)
If the expected T-bill rate is 3.8 percent, the expected risk premium on the portfolio is ???? percent. (Do not include the percent sign (%). Round your answer to 2 decimal places. (e.g., 32.16))


(c)
If the expected inflation rate is 3.6 percent, the approximate and exact expected real returns on the portfolio are ???? percent and ???? percent, respectively. The approximate and exact expected real risk premiums on the portfolio are ???? percent and ???? percent, respectively. (Do not include the percent signs (%). Round your answers to 2 decimal places. (e.g., 32.16))

Explanation / Answer

a. Wt in stock A= 31% Wt in stock B= 31% Wt in stock C= 38% expected return of Stock A= 32.35% expected return of Stock B= 16.85% expected return of Stock C= 8% portfolio expected return=(.31x32.35)+(.31x16.85)+(.38x8)= 18.292% standard deviation of Stock A= 10.59% standard deviation of Stock B= 16.77% standard deviation of Stock C= 35.87% portfolio standard deviation =(.31x10.59)+(.31x16.77)+(.38x35.87)= 22.11% b.expected risk premium = 18.292-3.8= 14.492%

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