Consider the following scenario analysis: a. Is it reasonable to assume that Tre

Question

Consider the following scenario analysis:

a. Is it reasonable to assume that Treasury bonds will provide higher returns in recessions than in booms? Yes or No

b. Calculate the expected rate of return and standard deviation for each investment. (Do not round intermediate calculations. Enter your answers as a percent rounded to 1 decimal place.)

Stocks: Expected Rate of Return?

Stocks: Standard Deviation?

Bonds: Expected Rate of Return?

Bonds: Standard Deviation?

Rate of Return Rate of Return Scenario Probability Stocks Bonds Recession .30 -6% 15% Normal economy .60 18% 8% Boom .10 26% 5%

Explanation / Answer

Scenario Probability=P Return Stock=Rs Expected Return Stock=P*Rs P*(Rs-Ers)^2 when Ers=11.6% Return Bonds=Rb Expected Return Bond =P*Rb P*(Rb-Erb)^2, when Erb=9.8% Recession                 0.30 -6.00% -1.8%        0.03098 15.00% 4.50%      0.00270 Normal Economy                 0.60 18.00% 10.8%        0.00410 8.00% 4.80%      0.00032 Boom                 0.10 26.00% 2.6%        0.02074 5.00% 0.50%      0.00230 Expected Return (Er)= 11.60% 9.80% Sum          0.05581      0.00533 Population Variance=Sum/3        0.01860      0.00178 Population Std Deviation =Square Root Variance= 13.64% 4.22%

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