Problem 2 *** NOTE: No copying answers from other questions in this system are i
ID: 2719124 • Letter: P
Question
Problem 2
*** NOTE: No copying answers from other questions in this system are incorrect. IT IS VERY IMPORTANT TO COMPLETE THE ENTIRE EXERCISE. INCLUDE ALL CALCULATIONS. THANK
Below is a table with the expected return of three active - A, B and C - for the period from 2017 to 2020.
For these assets should evaluate the following:
Alternative 1 - Invest 100% in active A.
Alternative 2 - Investing in assets 50% A and 50% in the active B.
Alternative 3 - 50% invest in asset A and 50% in active C.
Instructions:
1. Calculate the expected return for four years for each of the three alternatives.
2. Calculate the standard deviation for four years for each of the three alternatives.
3. Use the results of the first two parts to calculate variation coefficient for each of the three alternatives.
4. Which of the three investment alternatives you recommend? Why?
*** NOTE: No copying answers from other questions in this system are incorrect. IT IS VERY IMPORTANT TO COMPLETE THE ENTIRE EXERCISE. INCLUDE ALL CALCULATIONS. THANK
Expected Return Year 2017 2018 2019 2020 Active A 14% 15% 20% 21% Active B 13% 17% 12% 18% Active C 12% 12% 17% 19%Explanation / Answer
1. expected return for four years for each of the three alternatives.
Alternative 1: 100% investment in Asset A
Return on Asset A = 14% + 15% + 20% + 21% / 4 = 17.5%
Alternative 2: Investing in assets 50% A and 50% in the active B.
Total Return A & B = 13.5 + 16+ `16+ 19.5/4 = 65/4 = 16.25%
Alternative 3 : 50% invest in asset A and 50% in active C.
Total Return A & C = 13 + 13.5 + 18.5 + 20 Divide by 4 = 65/4= 16.25%
2. Standard Deviation: (please use the SD formula)
1st Alternative = Square Root of the Summation of Four years For investment A divided by n-1 = i.e. square root of 37.25 divided by 3 = square root of 12.41667 i.e. 3.523
2nd Alternative = ( same as above) = square root of 15.25/3 = suare root of 5.08333 i.e. 2.254
3rd Alternative = square root of 37.25/3 = Square root of 12.41667 i.e. 3.523
3. Calculation of variation co-efficient for each of the three
CV of A = 3.523/17.5%= 0.2013
CV of AB = 2.254/16.25%=0.1387
CV of AC = 3.523/16.25%=0.2168
4. The recommended assets will be based on the returns and the co-efficient variations.
Since the assets have different expected returns, the coefficient of variation should be used to determine the best asset.
Alternative 3, with positively correlated assets, has the highest coefficient of variation and therefore is the riskiest. Alternative 2 is the best choice; it is perfect as it has the lowest coefficient of variation.
Year Asset- A Asset- B Return (A+B) 2017 14%x.50 = 7% 13%x.50= 6.5% 13.5% 2018 15%x.50 = 7.5% 17%x.50= 8.5% 16% 2019 20%x .50= 10% 12%x.50=6% 16% 2020 21%x.50= 10.5% 18%x.50=9% 19.5%Related Questions
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