Assume that the expected return on stocks is 12%, the standard deviation of stoc
ID: 2708752 • Letter: A
Question
Assume that the expected return on stocks is 12%, the standard deviation of stocks is 18%, and the riskfree rate is 5%. Given this information, an investor selects a portfolio with a 70% allocation to stocks and a 30% allocation to the riskfree asset. According to the derivation of risk tolerance found in Equation (17.2), what risk tolerance is indicated by this choice? In words, describe what this value means.
Assume that the expected return on stocks is 12%, the standard deviation of stocks is 18%, and the riskfree rate is 5%. Given this information, an investor selects a portfolio with a 70% allocation to stocks and a 30% allocation to the riskfree asset. According to the derivation of risk tolerance found in Equation (17.2), what risk tolerance is indicated by this choice? In words, describe what this value means.Explanation / Answer
Assume that the expected return on stocks is 12%, the standard deviation of stocks is 18%, and the riskfree rate is 5%. Given this information, an investor selects a portfolio with a 70% allocation to stocks and a 30% allocation to the riskfree asset. According to the derivation of risk tolerance found in Equation (17.2), what risk tolerance is indicated by this choice? In words, describe what this value means.
Expected rate of return from stock = 12% x $70 = $8.4
Standard deviation = 18% x $8.4 = 8.4*0.18 = $1.512
return from risk free asset = 5% x $30 = $1.5
therefore, return on total invest ment = $8.4+$1.5 = $9.9
risk tolerance = $1.512/$9.9 = 15.27%---------------ANSWER
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