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In: Finance

You have a portfolio with a standard deviation of 25 % and an expected return of...

You have a portfolio with a standard deviation of 25 % and an expected return of 15 %. You are considering adding one of the two stocks in the following table. If after adding the stock you will have 20 % of your money in the new stock and 80 % of your money in your existing portfolio, which one should you add? Expected Return Standard Deviation Correlation with Your Portfolio's Returns Stock A 15% 23% 0.4 Stock B 15% 18% 0.5

Expert Solution

Case 1:

Asset	Weight	Expected return	Standard deviation
Current portfolio	80.00%	15.00%	25.000%
New Stock	20.00%	15.00%	23.000%

Portfolio Expected return is calcualted by solving the following equation:

Portfolio standard deviation is calculated by solving the following equation:

Case 2:

Asset	Weight	Expected return	Standard deviation
Current \ portfolio	80.00%	15.00%	25.000%
New \ Stock	20.00%	15.00%	18.000%

Portfolio Expected return is calcualted by solving the following equation:

Portfolio standard deviation is calculated by solving the following equation:

So case 2 is better. Both give the same return but the risk of case 2 is lower.

jeff jeffy answered 1 year ago

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