3. Suppose that your job is to hire portfolio managers and let each one of them

Question

3. Suppose that your job is to hire portfolio managers and let each one of them run his own investment strategy independently. Unfortunately, you know little about these managers, and have no better guess than to assume that the monthly retums that each one will generate are distributed with a mean of 1% and a standard deviation of 9%. After hearing descriptions of their strategies, you believe that it is reasonable to assume that the returns on their assets will be uncorrelated. a) (5 points) Your colleague says that since all managers are basically equivalent there is no point to hinng more than one Prove mathematically that a portfolio that is 50% invested in one manager ("manager 1") and 50% invested in another manager ("manager 2") would be strictly preferred by a risk-averse investor over an investment in cither one individually b) (5 points) What is the corelation of the return on the 50 50 portiolo with the retum of manager 13

Explanation / Answer

a) A risk averse investor will always try to avoid risk to the maximum possible extent, and as it is saying that every portfolio manager is having own way of portfolio management which means that some portfolio managers may be too aggressive in his approach i.e. taking higher risk and some portfolio manager may try to create minimum variance portfolio.

Its always favourable to invest in multiple portfolio as compared to one specially for a risk averse investor, because of lower corelation in return between two managers due to different approach.

The lower corelation in portfolio leads to reduction of your risk and smoothen your returns over a period.

b) As it is saying that both the portfolio managers are having different approaches which means they are not correlated much. So, our answer wil be like the correlation will be close to 0, no matter what is the percentage of distribution between these two portfolios.

Related Questions

Navigate

• Browse (All)
• Browse 3
• Subjects

---

---

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.