Question

In: Finance

Probability Future Return - X Future Return - Y .1 -10% -35% .2 2% 0% .4...

  • Probability

    Future Return - X

    Future Return - Y

    .1

    -10%

    -35%

    .2

    2%

    0%

    .4

    12%

    20%

    .2

    20%

    25%

    .1

    38%

    45%

  • A. Given RX = 12%, find RY
  • B. Given σy = 20.35%, find σX
  • Calculate CVX and CVY
  • Compare their σ and CV to decide which one is more risky per dollar of return

Solutions

Expert Solution

(A) Computation of RY

Yi
(A)
Probability (p)
(B)
RY
(A)*(B)
           (35) 0.1           (3.5)
             -   0.2              -  
            20 0.4            8.0
            25 0.2            5.0
            45 0.1            4.5
Total RY          14.0

Hence, RY = 14%

(B) Computation of standard deviation of X

Xi RX (Xi - RX) (Xi - RX)^2
(A)
Probability (p)
(B)
(Xi - RX)^2 * p
(A) *(B)
           (10)             12            (22) 484 0.1 48.4
               2             12            (10) 100 0.2 20
            12             12              -   0 0.4 0
            20             12                8 64 0.2 12.8
            38             12             26 676 0.1 67.6
148.8

Standard deviation (S.D.) of X = Square root of 148.8

= 12.20%

Coefficent variation of X = (S.D. of X / RX)

= (12.2 / 12)

= 1.016

Coefficent variation of Y = (S.D. of Y / RY)

= (20.35 / 14)

= 1.453

Lower the Standard deviation and Coefficent of variation, better the risk-return trade-off. Since the standard deviation and coefficient variation of Y is higher as compared to X, hence Y is more risky per dollar of return.


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