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4. Suppose that we have three stocks with the following parameter values. Stock 1 Stock 2 Stock 3 Expected Standard Correlations of Returns Return Deviation
4. Suppose that we have three stocks with the following parameter values. Stock 1 Stock 2 Stock 3 Expected Standard Correlations of Returns Return Deviation Stock 1 Stock 2 Stock 3 0.20 0.25 1.00 0.30 0.40 0.25 0.35 1.00 0.60 0.15 0.15 1.00 (a) Find the expected return and standard deviation of a portfolio with 25% in stock 1, 50% in stock 2, and 25% in stock 3. Show your steps. (b) For the portfolio in part (a), find the covariance of its return with the return of the equally weighted portfolio of stock 1 and stock 2. (Equal weighting for a two-asset portfolio means that the weights are 50% and 50%.) Show your steps. (c) Someone claims that the portfolio in part (a) is the tangency portfolio of these three stocks. (Note that the concept of the tangency portfolio was explained in Class 5.) Do you believe this claim? Justify your answer. Hint: It may be useful to compare the portfolio in part (a) to a portfolio with somewhat different weights. 4. Suppose that we have three stocks with the following parameter values. Stock 1 Stock 2 Stock 3 Expected Standard Correlations of Returns Return Deviation Stock 1 Stock 2 Stock 3 0.20 0.25 1.00 0.30 0.40 0.25 0.35 1.00 0.60 0.15 0.15 1.00 (a) Find the expected return and standard deviation of a portfolio with 25% in stock 1, 50% in stock 2, and 25% in stock 3. Show your steps. (b) For the portfolio in part (a), find the covariance of its return with the return of the equally weighted portfolio of stock 1 and stock 2. (Equal weighting for a two-asset portfolio means that the weights are 50% and 50%.) Show your steps. (c) Someone claims that the portfolio in part (a) is the tangency portfolio of these three stocks. (Note that the concept of the tangency portfolio was explained in Class 5.) Do you believe this claim? Justify your answer. Hint: It may be useful to compare the portfolio in part (a) to a portfolio with somewhat different weights
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