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In: Finance

Define the concepts of the minimum variance opportunity set and efficient set of investment portfolios when...

Define the concepts of the minimum variance opportunity set and efficient set of investment portfolios when there are N > 2 risky assets and no risk-free asset is available. How are the two linked with each other? What will be the efficient set if the risk-free asset becomes available?

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Expert Solution

Minimum Variance Opportunity Set:

Whenever we design or form of portfolio assets, we can find out the portfolio risk-return characteristics of the underlying holdings and the correlation between the holdings. By distinguising the allocation of underlying assets, we can derive an investment opportunity set of different portfolio compositions. We can also graphically plot this i.e. portfolio expected return on Y-axis and portfolio standard deviation on X-axis.

Efficient Set of Investment Portfolios:

The efficient set is the set of portfolios that offers the highest expected return for a defined level of risk or the lowest risk for a given level of expected returns. The portfolios which provide best return as compared to risk are efficient ones and they tend to have a higher degree of diversification.

Comparison:

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