Consider the following information: Rate of Return if State Occurs State of Prob

Question

Consider the following information: Rate of Return if State Occurs State of Probability of Economy State of Economy Stock A Stock B Stock C Boom 0.58 0.14 0.22 0.40 Bust 0.42 0.16 0.06 0.05 a. What is the expected return on an equally weighted portfolio of these three stocks? (Do not round intermediate calculations and round your final answer to 2 decimal places. (e.g., 32.16)) Expected return % b. What is the variance of a portfolio invested 22 percent each in A and B and 56 percent in C? (Do not round intermediate calculations and round your answer to 6 decimal places. (e.g., 32.161616)) Variance

Explanation / Answer

a. State of Economy Probability Stock A Stock B Stock C Boom 0.58 14% 22% 40% Bust 0.42 16% 6% -5% Weighted Return 14.84% 15.28% 21.10% On an equally weighted portfolio of these three stocks the expected return will be 1/3 of 14.84% + 1/3 of 15.28% + 1/3 of 21.10% = 17.07% b. If the investment is 22% invested each in Stocks A and B and 56% in Stock C The expected return will be 22% of 15% + 22% of 15% + 56% of 21% = 3.3% + 3.3% + 11.76% = 18.36% Standard deviation will be the square root of the expected return Hence, the standard deviation will be 0.428486

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