In: Statistics and Probability
Blair & Rosen, Inc. (B&R) is a brokerage firm that specializes in investment portfolios designed to meet the specific risk tolerances of its clients. A client who contacted B&R this past week has a maximum of $50,000 to invest. B&R's investment advisor decides to recommend a portfolio consisting of two investment funds: an Internet fund and a Blue Chip fund. The Internet fund has a projected annual return of 12%, while the Blue Chip fund has a projected annual return of 9%. The investment advisor requires that at most $35,000 of the client's funds should be invested in the Internet fund. B&R services include a risk rating for each investment alternative. The Internet fund, which is the more risky of the two investment alternatives, has a risk rating of 6 per thousand dollars invested. The Blue Chip fund has a risk rating of 4 per thousand dollars invested. For example, if $10,000 is invested in each of the two investment funds, B&R's risk rating for the portfolio would be 6(10) + 4(10) = 100. Finally, B&R developed a questionnaire to measure each client's risk tolerance. Based on the responses, each client is classified as a conservative, moderate, or aggressive investor. Suppose that the questionnaire results classified the current client as a moderate investor. B&R recommends that a client who is a moderate investor limit his or her portfolio to a maximum risk rating of 240.
(a) | Formulate a linear programming model to find the best investment strategy for this client. | ||||||||||||||||||||||||||||||||||||||||||
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If required, round your answers to two decimal places. If the constant is "1" it must be entered in the box. If your answer is zero enter “0”. | |||||||||||||||||||||||||||||||||||||||||||
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(b) | Build a spreadsheet model and solve the problem using Solver. What is the recommended investment portfolio for this client? | ||||||||||||||||||||||||||||||||||||||||||
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What is the annual return for the portfolio? | |||||||||||||||||||||||||||||||||||||||||||
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(c) | Suppose that a second client with $50,000 to invest has been classified as an aggressive investor. B&R recommends that the maximum portfolio risk rating for an aggressive investor is 320. What is the recommended investment portfolio for this aggressive investor? | ||||||||||||||||||||||||||||||||||||||||||
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(d) | Suppose that a third client with $50,000 to invest has been classified as a conservative investor. B&R recommends that the maximum portfolio risk rating for a conservative investor is 160. Develop the recommended investment portfolio for the conservative investor. If your answer is zero enter “0”. | ||||||||||||||||||||||||||||||||||||||||||
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a. Let the amount invested in internet fund be "I" and blue chip fund be "B".
Nowm we have to maximize the return for the portfolio. Portfolio return = weighted average return of the two funds = 0.12I+0.09B. This is the objective function and this will have to be maximized.
Constraints:
(i) I+B<=50,000 (maximum amount avaliable for investment)
(ii) I<=35,000 (at most $35,000 of the client's funds should be invested in the Internet fund)
(iii) 6/1000*I+4/1000*B<=240 (maximum risk for a moderate investor).
Solving in excel, using the solver function, the following solution is obtained:
b.
Internet | Blue chip | ||||
Amount invested | 20000 | 30000 | |||
Returns | 0.12 | 0.09 | |||
Portfolio return | 5100 | ||||
Constraints | Formula | ||||
50000 | <= | 50000 | I+B<=50,000 | ||
20000 | <= | 35000 | I<=35000 | ||
240 | <= | 240 | 6/1000*I+4/1000*B<=240 |
Thus I = $20,000 and B = $30,000. Annual return = $5,100. All contraints are satisfied.
c. Constraint (i) and (ii) will remain the same. The 3rd constraint will become: 6/1000*I+4/1000*B<=320
Solving in excel, the following solution is obtained:
Internet | Blue chip | ||||
Amount invested | 35000 | 15000 | |||
Returns | 0.12 | 0.09 | |||
Portfolio return | 5550 | ||||
Constraints | Formula | ||||
50000 | <= | 50000 | I+B<=50,000 | ||
35000 | <= | 35000 | I<=35000 | ||
270 | <= | 320 | 6/1000*I+4/1000*B<=320 |
I = $35,000. B = $15,000 and Annual Return = $5,500
d. Constraint (i) and (ii) will remain the same. The 3rd constraint will become: 6/1000*I+4/1000*B<= 160. Solution:
Internet | Blue chip | ||||
Amount invested | 0 | 40000 | |||
Returns | 0.12 | 0.09 | |||
Portfolio return | 3600 | ||||
Constraints | Formula | ||||
40000 | <= | 50000 | I+B<=50,000 | ||
0 | <= | 35000 | I<=35000 | ||
160 | <= | 160 | 6/1000*I+4/1000*B<=320 |
I = $0, B = $40,000 and Annual return = $3,600.