Assignment No.

FINDING THE MAXIMUM UTILITY PORTFOLIO FOR

TWO SELECTED RISKY ASSETS

Course Name: Investment Analysis and Portfolio Management

Course Code: F605

Submitted to,
Mrs. Shakila Yasmin,
Associate Professor,
IBA, University of Dhaka

Submitted by,
Name: Kazi Asequl Arefin
Batch: MBA-58D
ID: 58

Institute of Business Administration (IBA)

University of Dhaka

March 27, 2019

1.0 Selected Risky Assets
For the purpose of this assignment, the following two shares are selected-
• Olympic Industries Limited
• British American Tobacco
The two stock has been selected as both the stocks have been known to provide good returns.
Although their product is similar in nature, some diversification benefit is expected.
2.0 Risk and Return of the Individual Stock
From the stock market data of the two companies, the following data is calculated-
Year Olympic Industries % Return British American % Return
Limited Tobacco
2013 157.62 1,206.30
2014 225.81 43.26% 2,377.22 97.07%
2015 250.52 10.94% 2939.73 23.66%
2016 305.92 22.12% 2655.35 -9.67%
2017 291.89 -4.59% 2710.26 2.07%
Table: Average annual price of the selected shares and percentage return
The average annual price is found by taking the arithmetic mean of all the share prices in the
selected year. The percentage return is found by the formula (Year 2 return-Year 1 return)/Year
1 return.
3.0 Expected Return and Standard Deviation
By taking the arithmetic mean of the returns we get the expected return. Similarly, we can
calculate the standard deviation by applying STDEV function of excel on the % return. This
gives us the following table-
Olympic Industries Limited British American Tobacco
Expected Return 17.93% 28.28%
Standard Deviation 20.12% 47.89%
Correlation Coefficient 0.7630
Table: Expected Return and Standard Deviation
Here, the correlation coefficient is calculated by the CORREL function in excel. The
correlation has been calculated by the same yearly data of the stock. The correlation is quite
high but some benefit of diversification can be obtained by creating a two-stock portfolio.
4.0 Minimum Variance Portfolio and Maximum Utility Portfolio
Before going into creating the portfolio itself using different weights, we calculate the weight
for the minimum variance portfolio and maximum utility portfolio. We have selected A=1.353
as the risk aversion coefficient.
The minimum variance portfolio is calculated using the formula:
𝜎𝐸2 − 𝐶𝑜𝑣(𝑟𝐷 , 𝑟𝑒 )
𝑤𝑀𝑖𝑛 (𝐷) =
𝜎𝐷2 + 𝜎𝐸2 − 2𝐶𝑜𝑣(𝑟𝐷 , 𝑟𝐸 )

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By applying the formula here, we find weight of Olympic Industry stock is 1.27. That is, we
should short-sell BATBC stock to buy Olympic Industry Stock.
The Maximum utility portfolio is calculated by the following formula:
𝐸(𝑟𝐷 ) − 𝐸(𝑟𝐸 ) + 𝐴(𝜎𝐸2 − 𝜎𝐷 𝜎𝐸 𝜌𝐷𝐸 )
𝑤𝐷 =
𝐴(𝜎𝐷2 + 𝜎𝐸2 − 2𝜎𝐷 𝜎𝐸 𝜌𝐷𝐸 )
In the maximum utility portfolio, where A=1.353, the weight of Olympic Industry Stock is
1.17. Here again we find that we should short sell the British American Tobacco stock to get
in this position.
5.0 Calculating Portfolio Return and Standard Deviation for Different Weights
Now, by taking different weights we can calculate the portfolio return and standard deviation
of the two-asset portfolio. The portfolio expected return and portfolio standard deviation is
Weight of Olympic Portfolio Expected Portfolio Standard
Industries Stock Return Deviation
0 28.28% 47.89%
0.2 26.21% 41.47%
0.4 24.14% 35.26%
0.6 22.07% 29.42%
0.8 20.00% 24.21%
1 17.93% 20.12%
1.17 16.22% 18.15%
1.27 15.15% 17.78%
Table: Portfolio Expected Return and Standard Deviation for different weights
The opportunity set of the portfolio is given in the chart below. The maximum utility portfolio
has been marked in the chart.

Portfolio Opportunity Set

60.00%

50.00%
Expected Return

40.00%

Maximum Utility
30.00%
Portfolio
16.22%, 18.15%
20.00%

10.00%

0.00%
0.00% 5.00% 10.00% 15.00% 20.00% 25.00% 30.00%
Standard Deviation

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