1. Assume that your financial market research shows that an investment in a diversified portfolio of common stock produced an average annual return of 14.25%, 30-year U.S. Treasury bonds produced a return of 10%, and Treasury bills produced an average annual return of 6.75%. Based on this research, what was the average risk premium for common stocks over 30-year Treasury bonds? What was the risk premium for Treasury bonds over Treasury bills? Now suppose the annual rate of inflation for the same time period was 4%. What was the risk premium for common stocks over 30-year Treasury bonds in real (inflation-adjusted) terms? What was the risk premium for 30-year Treasury bonds over Treasury bills in real terms?

2. You are thinking about in a common stock with the following possible outcomes:

Probability of Investment

States Occurrence (P_i) Returns (r_i)

State 1: Economic boom 0.25 -10%

State 2: Average Growth 0.5 18%

State 3: Economic decline 0.25 32%

Calculate the expected rate of return (in %) and the standard deviation of returns () for this investment.