Question

QUESTION 1. You are a recent graduate that has been hired at “Price Family Paper” as their new Assistant to the Regional Manager. You realize how important saving money for retirement is, so you enroll in the company sponsored retirement plan on Day 1. They offer employees two options for their investments:

Portfolio A: 50% stocks, 20% bonds, 20% mutual funds, 5% t-bills, 5% cash

Portfolio B: 80% stocks, 15% mutual funds, 5% bonds

Which portfolio is better for you to invest in and why? Would this change over time or remain consistent?

QUESTION 2.

Based on the efficient frontier graph, which of the following portfolios is the only portfolio that could exist for investors?

            a.   4% risk, 8% return

            b.   7% risk, 10% return

            c.   17% risk, 26% return

            d.   24% risk, 40% return

            e.   Any of the above portfolios may be valid for investors

Answer 1

Question 1:

Since, the Assistant to Regional manager is a young recent graduate and has a long term horizon to invest with a goal to save for retirement, he/she should invest in Portfolio B: 80% stocks, 15% mutual funds and 5% bonds.

The individual under consideration here is young and has a long life ahead to work and invest, thus, can take more risks and therefore, a higher investment in stocks is justified. Further more, since the individual is currently employed, his/her monthly cash needs can be met from his monthly salary, therefore, no requiring idle cash balance in the portfolio and enabling him/her to generate higher returns.

This portfolio investment should be reconsidered at important milestones in life, for example, one the individual is married, has children, is expecting to pay for some large medical or similar unexpected expenses. At such a juncture, it will be necessary to evaluate the upcoming expenditure or incomes and risk capacity of the individual, following which, an informed decision regarding changing portfolio investment can be made.

Question 2: e - Any of the above portfolios may be valid for investors

In each of the given options, portfolio return increases as the risk associated with the portfolio increases, thus, any of the above may be valid for investors.