In: Finance
You have a portfolio with a standard deviation of 26% and an expected return of 19%. You are considering adding one of the two shares in the table below. If after adding the shares you will have 20% of your money in the new shares and 80% of your money in your existing portfolio, which one should you add?
Expected return |
Standard deviation |
Correlation with your portfolio's returns |
|
Share A |
13% |
25% |
0.4 |
Share B |
13% |
17% |
0.5 |
Standard deviation of the portfolio with share A is .................. %. (Round to two decimal places.)
Standard deviation of the portfolio with share B is .................. %. (Round to two decimal places.)
Which share should you add and why? (Select the best choice below.)
A. Add A since the portfolio is less risky when A is added.
B. Add B because the portfolio is less risky when B is
added.
Standard Deviation of the portfolio with Share A:
Formula:
where,
Xa= Weight in Portfolio = 80%
Xb= Weight in Share A = 20%
a= Standard deviation in portfolio= 26%
b= Standard deviation in Share A= 25%
Pab= Correlation with portfolio's returns= 0.4
=
=
=
=
Ans = 23.26%
Standard Deviation of the portfolio with Share B:
where,
Xa= Weight in Portfolio = 80%
Xb= Weight in Share B = 20%
a= Standard deviation in portfolio= 26%
b= Standard deviation in Share B= 17%
Pab= Correlation with portfolio's returns= 0.5
=
=
=
=
Ans = 22.69%
Comment:
Standard Deviation of the portfolio with Share A = 23.26%
Standard Deviation of the portfolio with Share B = 22.69%
Add Share B, since the standard deviation of the portfolio is less risky when share B is added.