Question

In: Finance

You have $20,000. You plan on purchasing a house in one year, but you will need...

You have $20,000. You plan on purchasing a house in one year, but you will need to have $22,500 for the downpayment. Which of the following is a good investment opportunity to ensure you have the money necessary to make your downpayment in a year?

A portfolio with an expected return of $24,000 and a standard deviation of 10%.

A portfolio with an expected return of $30,000 and a standard deviation of 15%.

All of these options would be a good investment.

A portfolio with an expected return of $27,000 and a standard deviation of 20%.

The adequately diversify your portfolio, you need to do more than just own a variety of securities. Which of the following is a necessary component of a well-diversified portfolio that has a low variance?

The component securities have small or negative correlation coefficients.

The portfolio is reviewed and rebalanced based on updated projections and new information.

All of these answers.

The portfolio's components are in a variety of asset classes, such as commodities and derivatives.

Which of the following statements regarding the Security Market Line (SML) is true?

The slope of the SML is equal to the market risk premium and reflects the risk-return trade off.

The SML graphs unsystematic risk

The x-intercept of the SML is equal to the risk-free interest rate.

All of these answers

Solutions

Expert Solution

1) You have $20,000. You plan on purchasing a house in one year, but you will need to have $22,500 for the downpayment. Which of the following is a good investment opportunity to ensure you have the money necessary to make your downpayment in a year?

We take the lower bound of 95% confidence interval of the options to ensure you have the money necessary to make your downpayment in a year.

95% confidence interval lower bound

A portfolio with an expected return of $24,000 and a standard deviation of 10% => 24000-1.96*0.1*24000 = $19296

A portfolio with an expected return of $30000 and a standard deviation of 15% => 30000-1.96*0.15*30000 = $21180

A portfolio with an expected return of $27000and a standard deviation of 20% => 27000-1.96*0.2*27000= $16416

We select the portfolio with the highest expected return of the 95% confidence interval lower bound

Hence, A portfolio with an expected return of $30000 and a standard deviation of 15% is a good investment opportunity to ensure you have the money necessary to make your downpayment in a year

Which of the following is a necessary component of a well-diversified portfolio that has a low variance?

All of these answers.

More diversified a portfolio is, lesser is the variance of the portfolio. As the correlation between stock in a portfolio becomes small and negative, less intense is the effect of any market conditions on the portfolio. Also, the portfolio needs to be reviewed and updated on regular time intervals based on updated projections and new information. More diversification is achieved on investing in various asset classes since the correlation between such asset classes is usually low or negative

Which of the following statements regarding the Security Market Line (SML) is true?

The slope of the SML is equal to the market risk premium and reflects the risk-return trade-off

The slope of SML is Market returns- Risk-free rate which is the market risk premium. The SML graph represents Beta ie the systematic risk. The y-intercept of the SML is equal to the risk-free interest rate.


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