Question
A financial risk-taker is thinking about investing a fund of $12,000,000 in a portfolio of high risk bonds of various financial trusts, which offer yields
A financial risk-taker is thinking about investing a fund of $12,000,000 in a portfolio of high risk bonds of various financial trusts, which offer yields higher than the market but at relatively high chance of defaults. The following table summaries the yield of five candidate bonds under his consideration as well as the default ratios of the individual bonds.
Bond Code | Type of Trust | Yield (% p.a.) | Default Ratio (within 1 year) |
B1 | Personal Loan | 14 | 10/100 |
B2 | Automobile Mortgage | 13 | 7/100 |
B3 | Realty Mortgage | 12.5 | 3/100 |
B4 | Farm Financing | 12 | 5/100 |
B5 | Commercial Loan | 10 | 2/100 |
Based on financial advisors opinion, the investor decides to allocate at least 40% of the fund to bonds of farm financing and commercial loans. To balance the relative risks, the proportion on bonds of realty mortgage must be at least 50% of those on personal loan, car and realty mortgages. Moreover, the overall default ratio of the portfolio cannot exceed 4/100. All the bonds to be acquired on the same day to the portfolio. Determine the amount to be allocated to each of the five candidate bonds in order to maximize the net total yield of the portfolio.
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