Use the rate of return data for the stock and bond funds presented in Spreadsheet 6.1, but now assume that the probability of each scenario is: Severe recession: .10; Mild recession: .20; Normal growth: .35; Boom: .35.

a. Would you expect the mean return and variance of the stock fund to be more than, less than, or equal to the values computed in Spreadsheet 6.2? Why?

b. Calculate the new values of mean return and variance for the stock fund using a format similar to Spreadsheet 6.2. Confi rm your intuition from part (a).

c. Calculate the new value of the covariance between the stock and bond funds using a format similar to Spreadsheet 6.4. Explain intuitively why the absolute value of the covariance has changed.

A pension fund manager is considering three mutual funds. The first is a stock fund, the second is a long-term government and corporate bond fund, and the third is a T-bill money market fund that yields a sure rate of 5.5%. The probability distributions of the risky funds are:
Expected Return Standard Deviation Stock fund (S) 15% 32%
Bond fund (B) 9 23 The correlation between the fund returns is .15. LO.1