Ms. Yellen runs a portfolio consisting of two risky assets: stock (S) and gold (G). 90% of her portfolio holding is in S and 10% is in G.

Information on the two risky assets are given below:

Asset Exp Rate of Return Std Dev

S 15% 20%

G 5% 25%

Assume that the correlation between the two assets is 0.

(a) Comparing the expected rate of return and the standard deviation of Ms. Yellen's portfolio.

(b) Compare your results of (a) to S and explain why Ms. Yellen is able to have a lower risk than S alone.

Portfolio consists two stocks: S and G Weight of S = 90% Weight of G = 10% Expected return of S = 15% Expected return of G = 5% Expected return of portfolio = Ws * ERs + Wg * ERg = 0.90* 15 + 0.10*5 = 14% Portfolio standard deviation = [(Ws*SDs)^2 + (Wg*SDg)^2 + 2 * Ws * SDs * Wg * SDg * r]^(l/2) = [(0.90 * 20)^2 + (0.10 *25)^2 + 2 * 0.90 * 20 * 0.10 * 25 * 0]^(l/2) = [324 + 6.25]^(1/2) = 18.173% (Approximately) This portfolio is giving less return with less risk when compared to Stock S. This is giving since we are getting some return which is lower than stock S, hence it should be have risk which is lower risk than stock S. Mr. Markowitz also runs a risky portfolio. However, 100% of list holding is in stock (S) given in the previous problem (he holds no gold G)). Suppose that T-bills currently have a rate of return of 2%. Assume that borrowing is possible at the risk free rate. a) You are risk averse and you are considering constructing a portfolio consisting of T-bills and one of the two portfolios (Ms. Yellen's or Mr. Markowitz's). Which of the two portfolios would you choose to be included in your portfolio with T-bills? Explain. b) Your friend is considering the same issue but she is less risk averse than you. Should she arrive at a different conclusion than you? Explain. c) Suppose that you start your portfolio with $1 million and also your portfolio target return is 10% (this is your portfolio from part (a)), how many dollars will you invest in T-bills? What is your portfolio's risk? Show your work