Assume that the assumptions underlying the CAPM hold and that the yield to maturity of short-term German government bonds is 5% (risk-free rate). The expected return of the market portfolio is 15% and its standard deviation is 20%.

Answer the following 2 questions:

1. (6 points) Fabrizio wants to invest $100,000 in a portfolio with as high an expected return as possible but with a volatility of at most 10%. After doing some research, he found the Pacific Fund, a mutual fund that yields an expected return of 9.5% and has a volatility of 10%. Explain to Fabrizio why investing in this fund is not a good idea.

2. Having convinced Fabrizio not to invest in the Pacific Fund, you must now tell him where to invest his money given his objective. Tell him precisely:

1. (6 points) How much money he should invest in what assets or portfolios?

2. (5 points) What would be his expected return and how much volatility his investment would be exposed to?

3. (3 points) What would be his portfolios Sharpe Ratio and how does it compare to the Sharpe Ratio of the market portfolio? Explain.

4. (3 points) What is the beta of his investment?