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Tutorial 4 CHP 5 - Solution
Tutorial 4 CHP 5 - Solution
CHAPTER 05
RISK AND RETURN: PAST AND PROLOGUE
5. E(r) = [0.4 38%] + [0.3 21%] + [0.3 (19%)] = 15.8%
2 = [0.4 (38 15.8)2] + [0.3 (21 15.8)2] + [0.3 (19 15.8)2]
= 23.84%
The mean is unchanged, but the standard deviation has increased.
6.
7.
a. Time-weighted average returns are based on year-by-year rates of return.
Year
2010-2011
2011-2012
2012-2013
Cashflow
-720
-246
131
854
Explanation
Purchase of six shares at $120 per share
Purchase of two shares at $129,
plus dividend income on six shares held
Dividends on eight shares,
plus sale of one share at $115
Dividends on seven shares,
plus sale of seven shares at $120 per share
5-1
Date:
1/1/10
|
|
|
|
|
720
131
|
|
1/1/12
1/1/11
|
|
|
|
246
854
|
|
|
|
|
|
|
1/1/13
0.8 20% =
0.8 30% =
0.8 50% =
Investment
Proportions
20.0%
16.0%
24.0%
40.0%
5-2
12 4
= 0.2857
28
10.4 4
= 0.2857
22.4
d.
13.
a. Mean of portfolio = (1 y)rf + y rP = rf + (rP rf )y = 4 + 8y
If the expected rate of return for the portfolio is 15%, then, solving for y:
11 = 4 + 8y y =
11 4
= 0.875
8
0.875 20% =
0.875 30% =
0.875 50% =
Investment
Proportions
12.5%
17.5%
26.25%
43.75%
13 4
= 0.36
25
b. My fund allows an investor to achieve a lower expected rate of return for any
given standard deviation than would a passive strategy, i.e., a lower expected
return for any given level of risk.
16.
a. With70%ofhismoneyinmyfund'sportfolio,theclienthasanexpectedrateof
returnof12%peryearandastandarddeviationof28%peryear.Ifheshifts
thatmoneytothepassiveportfolio(whichhasanexpectedrateofreturnof13%
andstandarddeviationof25%),hisoverallexpectedreturnandstandard
deviationwouldbecome:
E(rC) = rf + 0.7(rM rf)
In this case, rf = 4% and rM = 13%. Therefore:
E(rC) = 4 + (0.7 (13% - 4%)) = 10.3%
The standard deviation of the complete portfolio using the passive portfolio
would be:
C = 0.7 M = 0.7 25% = 17.5%
Therefore, the shift entails a decline in the mean from 12% to 10.3% and a decline
in the standard deviation from 25% to 17.5%. Since both mean return and
standard deviation fall, it is not yet clear whether the move is beneficial. The
disadvantage of the shift is apparent from the fact that, if my client is willing to
accept an expected return on his total portfolio of 10.3%, he can achieve that
return with a lower standard deviation using my fund portfolio rather than the
passive portfolio.
To achieve a target mean of 10.3%, we first write the mean of the complete
portfolio as a function of the proportions invested in my fund portfolio, y:
5-4
E(rC) = 7 + y(13 4) = 7 + 9y
Because our target is: E(rC) = 10.3%, the proportion that must be invested in my
fund is determined as follows:
10.3 = 7 + 9y y =
10.3 7
= 0.3667
9
12 4 f
8 f
=
28
28
13 4
= 0.36
25
8 f = 28 0.36 = 10.08
f = 8 10.08 = -2.08% per year
5-5
Important note: Question 16 has problem. It requires the comparison between portfolio
return and market return. Portfolio return in the old book is higher than market return.
When the value is changed in the new book, portfolio return becomes less than the
market return.. It makes Question 16 becoming strange.
5-6