7

8-1

8-2

7.1
7.2
7.3
7.4
7.5

8-3

7.1
7-1a )

8-4

7.1

7-1

a)

n
8-5

7.1

7-1b )

8-6

7.1

()

()
n

8-7

7-1

8-8

7.1

8-9

7-2

8-10

7.2

D
E 7-1

8-11

(covariance)

8-12

0.50
0.30
(%)
25
10

(%) 1
-5

0.2
-25
35

E(r )=10.5%, E(r)=6%:

[r-E(r) ] [r-E(r) ]

8-13

Cov(rr)
Pr(s)[r(s)-E(r)][r(s)-E(r)]

rD rE

CovrD , rE PrrD ErD rE ErE

8-14


E(r )10.5%E(r)6%

Cov(r r)
0.5(25 -10.5)(1-6) 0.3(10-10.5)(-5-6) 0.2(25-10.5)(35-6)-240.5

8-15

5
5: s12 s22
w1 w2
sp2
sp2 = w12s12 + w22s22 + 2w1w2 Cov(r1r2)

Cov(r1r2) =12

8-16

7.2
rp

= wDrD +wErE

(7-1)

wD =
rD =
w=
r=
n

wi = 1

i=1
8-17

7.2
P

E(rp)=wDE(rD)+wEE(rE)

(7-2)

8-18

7.2
sp2 = w2s2 + w2sE2 + 2wDwECov(rD,rE)
7-3
sD2 =
sE2 =
Cov(rr) =

8-19

7.2

CovrD , rD PrrD ErD rD ErD s2D

7-4

s2p w D w D CovrD , rD w E w E CovrE , rE 2w D w E CovrD , rE

(7-5)

8-20

7-2

8-21

DE =Cov(rrE)/ sDsE

7-6

Cov(rrD) = D2
DE =

p2 =w2 2+w2 E2+2wDwE DEDE 7-7

D = D
E = E

8-22

r DE
-1.0 < r DE < 1.0
= 1.0,
r = -1.0,

8-23


r = 1.0

sp2 = w2s2 + w2sE2 + 2wDwE D E

sp2 = (ws + wsE)2

sp = ws + wsE

7-7

7-8

7-9

8-24


r = -1.0()

sp2 = w2s2 + w2sE2 - 2wDwE D E

sp2 = (ws - wsE)2
sp = ws - wsE

ws - wsE = 0
w=E/(D + E)

w E= D / (D+E) =1-WD
8-25


AB
A10%5%B15%
10%AB AB =-1
rfrf =

8-26

 A B

WA WB

p =WA A WB B =0

5WA-101- WA=0 WA =0.6667

WB =1-0.6667=0.3333
Erf=0.666710+0.333315=11.667%

8-27

7.2
= 1.0

-
-

8-28

7.27-1
7-1
7-1

E(rp)0.08wD0.13wE

p20.122wD20.202wE220.120.200.3wDwE
0.0144wD20.04wE20.0144wDwE
p( p2)1/2

7 - 3
8-29

8-30

7.2
7-37-3
E0
110
8%13%

7-4

8-31

7-3

8-32

7-4

8-33

7.2

7-17-3
sp2 = w2s2 + w2sE2 + 2wDwECov(rD,rE)
1-wDwE sp2 = w2s2 + 1-wD 2sE2 +
2wD (1-wD )Cov(rD,rE)
=0

s 2E Cov(rD , rE )
w min (D) 2
s D s 2E 2Cov(rD , rE )
8-34

7.2
7-1
wMin(D)0.82
wMin(E)1-0.820.18
7-30.3

Min[(0.8220.122)(0.1820.22)
(20.820.180.72)]1/2
11.45%

8-35

7-4

8-36

7.2
7 - 40.3
wD1wE1

wD1wE1
1

8-37

7.2
0

010.29%
7-3,

-1

8-38

7.2
7-37-4

7-5
wDwE7
-37-4
7-3
7-5

8-39

7-5

8-40

7.2

-1.0 < < +1.0

= +1.0,

8-41

s1 = 0.15
r
12 =0 .2
Sec 2 E(r2) = 0.14 s2 = 0.20
Sec 1 E(r1) = 0.10

8-42


7-31-W1
W2W1=0

s 22 - Cov(r1,r2)
W1* =

s 12 + s 22 - 2Cov(r1r2)

W2 = (1 - W1)
8-43

 r = 0.2

Minimum Variance Combination: r =0 .2

(.2)2 - (.2)(.15)(.2)
W1 =

(.15)2 + (.2)2 - 2(.2)(.15)(.2)

W1 = .6733

W2 = (1 - .6733) = .3267
8-44

 r =0 .2

Minimum Variance: Return and Risk with r =0 .2

E(rp )= 0.6733*(0.10) + 0.3267*(0.14)

=0.1131

s p = [(.6733)2(.15)2 + (.3267)2(.2)2 +
2(.6733)(.3267)(.2)(.15)(.2)]

s p= [.0171]

1/2

1/2

= 0.1308
8-45

 r = -0.3

Minimum Variance Combination: r = -0.3

(.2)2 - (.2)(.15)(.2)
W1 =

(.15)2 + (.2)2 - 2(.2)(.15)(-.3)

W1 = .6087

W2 = (1 - .6087) = .3913
8-46

 r =-0.3

E(rp )= .6087(.10) + .3913(.14) = 0.1157

s p = [(.6087)2(.15)2 + (.3913)2(.2)2 +
1/2

2(.6087)(.3913)(.2)(.15)(-.3)]

s p= [.0102]

1/2

=0 .1009
8-47


3S
Ers=20%s =30%BErB
=12%B =15%8%
SB =0.1

8-48

COVrs rB =SB s B =0.13015=45

Wmin

s2B COV(rs , rB )
225 45
S= 2
=
=0.1739
2
sS sB 2COV(rs , rB ) 900 225 2 45

Wmin B=1-0.1739=0.8261

Ermin=0.1739200.826112=13.39%
s 2min = WS2 sS2 WB2 s2B 2 WS WB COV(rs , rB ) =0.17392 900+0.82612 225+2

0.17390.826145
min =13.92%

8-49

7.3

8-50

7.3

7-6

8-51

7.3
CAL rf 5%

A82%18%
7-3 A8.9%
11.45%5%
:
SA=[E(rA)-rf]/A=8.9-5/11.45=0.34

8-52

7.3

BAB
70% 30%9.5%
4.5%11.7%

SB =9.55/11.7= 0.38

BA

8-53

7.3
B

P7-7
7-7P

E(rP)11%P14.2%
8-54

7-7

8-55

8-56

8-57

7-2

8-58

AErA=10%A =20%
BErB=30%B =60%5%
ABAB =-0.2
P

8-59

COVrArB=ABA B =-0.22060=-240
P AB
[E(rA ) rf ]sB2 [E(rB ) rf ]COV(rA , rB )
WA =
[E(rA ) rf ]sB2 [E(rB ) rf ]sA2 [E(rA ) rf E(rB ) rf ]COV(rA , rB )
(10 5)602 (30 5)(240)
=
=0.6818
(10 5)602 (30 5)202 30(-240)

WB =1- WA =0.3182
Erp=0.681810+0.312830=16.36%
2

s2p =0.6818 20 +0.3182 60 +20.68180.3182-240

p =21.13%

8-60


ABA8.9%
11.45%B9.5%11.7%
5%AB

8-61

 AB -/
CAL
SA =

E(rA ) rf
=8.9-5/11.45=0.34
sA

SB =

E(rB ) rf
=9.5-5/11.7=0.38
sB

SBSA
B A

8-62

7.3
A4
P
y*=[E(rP)-rf]/[AP2]=0.7439 7-14
74.39%
P25.61%
P40%
ywD0.40.74390.297629.76%
ywE0.60.7439
0.446344.63%
7 - 87- 9
8-63

7-8

8-64

7-9

8-65

1)

2)
a. P7 - 13
b. a7 - 17 - 2
P
3)
a. P
7 - 14
b.

8-66

7.4

8-67

()

()

7-10

8-68

7.4.1
-

7-10

8-69

7.4.1

7 - 11
P

P

7- 8

8-70

 7.4.2

8-71

7.4.2

8-72

7.4.2

8-73


ALTERNATIVE CALS CAL (P)

E(r)

CAL (A)

M
M
P

CAL (
A

Global minimum variance)

A
G

P&F

A&F

s
8-74

8-75

8-76

8-77

8-78


E(rp)=wDE(rD)+wEE(rE)
sp2 = w12s12 + w22s22 + 2w1w2 Cov(r1r2)

Cov(rrE) = DE sDsE
Cov rD , rE Pr rD ErD rE ErE

8-79


s Cov(rD , rE )
w min (D) 2
s D s 2E 2Cov(rD , rE )
2
E

y*=[E(rP)-rf]/[AP2]
8-80

9-15
915

8%

(%)
(%)
(S)
20
30
(B)
12
15
0 . 1 0
9.

10.
0%1 0 0%2 0%

8-81

11.

12.
13.
14. 1 4%

a.
b.

15. 1 4%

8-82

9.

The parameters of the opportunity set are:

E(rS) = 20%, E(rB) = 12%, sS = 30%, sB = 15%, r 1
From the standard deviations and the correlation coefficient we generate
the covariance matrix [note that Cov(rS, rB) = rsSsB]:
Bonds
Stocks

Bonds
225
45

Stocks
45
900

The minimum-variance portfolio is computed as follows:

s 2B Cov(rS , rB )
225 45
wMin(S) = 2

0.1739
sS s 2B 2Cov(rS , rB ) 900 225 (2 45)
wMin(B) = 1 0.1739 = 0.8261
The minimum variance portfolio mean and standard deviation are:
E(rMin) = (0.1739 20) + (0.8261 12) 13.39%
sMin = [ w S2 s S2 w 2B s 2B 2 w S w B Cov (rS , rB )]1 / 2
= [(0.17392 900) + (0.82612 225) + (2 0.1739 0.8261 45)]1/2
= 13.92%
8-83

10.
Proportion Proportion
in stock fund in bond fund
0.00%
100.00%
17.39%
82.61%
20.00%
80.00%
40.00%
60.00%
45.16%
54.84%
60.00%
40.00%
80.00%
20.00%
100.00%
0.00%

Expected
return
12.00%
13.39%
13.60%
15.20%
15.61%
16.80%
18.40%
20.00%

Standard
Deviation
15.00%
13.92%
13.94%
15.70%
16.54%
19.53%
24.48%
30.00%

minimum
variance
tangency
portfolio

Graph shown below.

8-84

11.

The graph indicates that the optimal portfolio is the tangency portfolio with
expected return approximately 15.6% and standard deviation
approximately 16.5%.

8-85

12.

The proportion of the optimal risky portfolio invested in the stock fund is
given by:

[E(rS ) rf ]s 2B [E(rB ) rf ]Cov(rS , rB )

wS
[E(rS ) rf ]s 2B [E(rB ) rf ]sS2 [E(rS ) rf E(rB ) rf ]Cov(rS , rB )

[( 20 8) 225 ] [(12 8) 45 ]
0.4516
[( 20 8) 225 ] [(12 8) 900 ] [( 20 8 12 8) 45 ]

wB = 1 0.4516 = 0.5484
The mean and standard deviation of the optimal risky portfolio are:
E(rP) = (0.4516 20) + (0.5484 12) = 15.61%
sp = [(0.45162 900) + (0.54842 225) + (2 0.4516 0.5484 45)]1/2

13.

= 16.54%
The reward-to-variability ratio of the optimal CAL is:

E(rp ) rf
sp

15.61 8
0.4601
16.54
8-86

14.

a.

If you require that your portfolio yield an expected return of 14%,

then you can find the corresponding standard deviation from the
optimal CAL. The equation for this CAL is:

E(rC ) rf

b.

E(rp ) rf
sP

s C 8 0.4601s C

Setting E(rC) equal to 14%, we find that the standard deviation of the
optimal portfolio is 13.04%.
To find the proportion invested in the T-bill fund, remember that the
mean of the complete portfolio (i.e., 14%) is an average of the T-bill
rate and the optimal combination of stocks and bonds (P). Let y be
the proportion invested in the portfolio P. The mean of any portfolio
along the optimal CAL is:
E(rC) = (l y)rf + yE(rP) = rf + y[E(rP) rf] = 8 + y(15.61 8)
Setting E(rC) = 14% we find: y = 0.7884 and (1 y) = 0.2116 (the
proportion invested in the T-bill fund).
To find the proportions invested in each of the funds, multiply 0.7884
times the respective proportions of stocks and bonds in the optimal
risky portfolio:
Proportion of stocks in complete portfolio = 0.7884 0.4516 =
0.3560
Proportion of bonds in complete portfolio = 0.7884 0.5484 =
0.4324
8-87

15. Using only the stock and bond funds to achieve a portfolio expected return
of 14%, we must find the appropriate proportion in the stock fund (wS) and
the appropriate proportion in the bond fund (wB = 1 wS) as follows:
14 = 20wS + 12(1 wS) = 12 + 8wS wS = 0.25
So the proportions are 25% invested in the stock fund and 75% in the bond
fund. The standard deviation of this portfolio will be:
sP = [(0.252 900) + (0.752 225) + (2 0.25 0.75 45)]1/2 = 14.13%
This is considerably greater than the standard deviation of 13.04%
achieved using T-bills and the optimal portfolio.

8-88