2. Optimal portfolio choice with one risky asset and one risk-free asset: The annual expected return and standard deviation of a stock is 16% and 30%, respectively. The annual risk-free rate is 1%.

(a) What is the Sharpe ratio of the stock? (5 points)

(b) Abby plans to invest $1 million in the stock and the risk-free asset. If her risk aversion A=3, how many dollars will she invest in the stock and how many dollars will she invest in the risk-free asset? (10%)

(c) Tom also plans to invest $1 million in the stock and the risk-free asset. If Toms risk aversion A=6, will Tom invest more or less in the stock than Abby? (5%)

(d) Whose (Abby or Tom) portfolio has a higher Sharpe ratio and why? (5%)