Question

In: Finance

The expected return of the market index over 2022 is 10%. The standard deviation of returnsof the market index is expected to remain at its long-term average of 18%.

The expected return of the market index over 2022 is 10%. The standard deviation of returnsof the market index is expected to remain at its long-term average of 18%. The risk-free rate is4%. Calculate:

a. The degree of risk aversion (commonly denoted by ‘A’) for an investor in the marketindex.

b. The Sharpe ratio of the market index portfolio.

Expert Solution

(a)

Risk free rate (Rf) = 4% or 0.04

Market return (Em) = 10% or 0.1

Market risk (M sd) = 18% or 0.18

Market variance (M v) = 0.18*0.18

= 0.0324

Market return = Market variance * degree of risk aversion + risk free rate

0.1 = 0.0324 * degree of risk aversion + 0.04

Risk aversion = 1.8518

(b)

Share ratio = (Market Return - Risk free rate)/ Market risk

= (0.1 - 0.04) / 0.18

= 0.33

a. Risk aversion is 1.8518

b. Share ratio is 0.33.

Junaid answered 1 year ago

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