Question 1 (6 points) A sample of 34 mutual funds showed the following relations

Question

Question 1 (6 points)
A sample of 34 mutual funds showed the following relationship between the conditional mean of return on a portfolio Y (%) and the risk associated with that portfolio X (%). (Risk is measured by the standard deviation of return).
E(y/x)^ = 5.54 +0.4745x y=13.6% and x=17.1%
1. How would you interpret the intercept estimate? (1 point)
2. Consider a portfolio A with a risk x=15%. How would the return differ for another portfolio B whose risk is
(a) 2 percent lower, and (b) 2 percentage points lower than that of portfolio A? Use the equation to answer this.
(3 points)
3. It can be shown that the correlation coefficient between Y and X is 0.81. Baed on all the information provided,
especially the formulae for b2 and the correlation coefficient, determine if the standard deviation of risk x is
greater than that of return y. (2 points)

Explanation / Answer

Solution-

Intercept estimate is the amount when variable cofficient becomes zero. Here, intercept estimate implies return on a portfolio when risk becomes zero.

when x =15%,

If risk becomes 2% lower then change in return on portfolio will be -2 * .4745 = .949

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