Question

In: Finance

Write A if both statements are true. Write B if the first statement is true and...

Write A if both statements are true. Write B if the first statement is true and the second statement is false. Write C if the first statement is false and the second is true. Write D if both statements are false.

a. Asset diversification results in the reduction of asset variance, compared with a simple linear combination of the variances, that comes from holding two or more assets held in the portfolio, provided that these asset’s returns are not perfectly, positively correlated. Given a perfect positive correlation of two risky assets, the minimum variance set is an upward sloping straight line.

b.Risk refers to a situation in which possible future events cannot be defined and probabilities assigned. Uncertainty refers to situations in which there is no viable method of assigning probabilities to future stochastic events.

c.The efficient frontier of the investment opportunity set is the locus of all non-dominated portfolios in the mean-standard deviation space that for a given variance, no other investment opportunity offers a higher expected return. Rational investors elect to hold efficient portfolios, which maximize expected return for a given level of risk or equivalently minimize risk for a given expected return.

d.With the perfect inverse correlation between two risky assets, it is possible to construct a perfect hedge. The tangency portfolio is the optimal risk-free portfolio in the complete portfolio of the investor.

Expert Solution

a. Asset diversification results in the reduction of asset variance, compared with a simple linear combination of the variances, that comes from holding two or more assets held in the portfolio, provided that these asset’s returns are not perfectly, positively correlated.

Given a perfect positive correlation of two risky assets, the minimum variance set is an upward sloping straight line.

Answer) A: as both the statement is true

b.Risk refers to a situation in which possible future events cannot be defined and probabilities assigned.

Uncertainty refers to situations in which there is no viable method of assigning probabilities to future stochastic events

Answer) C if the first statement is false and the second is true

c.The efficient frontier of the investment opportunity set is the locus of all non-dominated portfolios in the mean-standard deviation space that for a given variance, no other investment opportunity offers a higher expected return.

Rational investors elect to hold efficient portfolios, which maximize expected return for a given level of risk or equivalently minimize risk for a given expected return.

Answer) A: as both the statement is true

d. With the perfect inverse correlation between two risky assets, it is possible to construct a perfect hedge.

The tangency portfolio is the optimal risk-free portfolio in the complete portfolio of the investor.

Answer ) B as the first statement is true and the second statement is false

jeff jeffy answered 3 days ago

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