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Pauline, a portfolio manager, is making recommendations to her clients, Luke. Pauline is considering whether to add Stock A or B into Luke's well-diversified portfolio.
Pauline, a portfolio manager, is making recommendations to her clients, Luke. Pauline is considering whether to add Stock A or B into Luke's well-diversified portfolio. She has made the following estimates: Table 1: Expected Returns and Standard Deviations of different assets Expected Returns Standard Deviations Stock A 16% 25% Stock B 20% 28% Market index 12% 10% Luke's portfolio 11% 11% Risk-free asset 3% Table 2: Correlation coefficient Market index Stock A 0.70 Stock B 0.40 Luke's portfolio 0.92 Market index 1 Luke's portfolio 0.65 0.42 Stock B 0.56 1 Stock A 1 1 Calculate the expected return and standard deviation of the portfolio consisting of 20% Stock B, 60% Luke's portfolio and 20% risk-free asset. (3 marks) Explain how to evaluate risk-adjusted returns of Stock A and Stock B by comparing their corresponding expected risk premiums and standard deviations respectively without involving calculations. (4 marks) Pauline, a portfolio manager, is making recommendations to her clients, Luke. Pauline is considering whether to add Stock A or B into Luke's well-diversified portfolio. She has made the following estimates: Table 1: Expected Returns and Standard Deviations of different assets Expected Returns Standard Deviations Stock A 16% 25% Stock B 20% 28% Market index 12% 10% Luke's portfolio 11% 11% Risk-free asset 3% Table 2: Correlation coefficient Market index Stock A 0.70 Stock B 0.40 Luke's portfolio 0.92 Market index 1 Luke's portfolio 0.65 0.42 Stock B 0.56 1 Stock A 1 1 Calculate the expected return and standard deviation of the portfolio consisting of 20% Stock B, 60% Luke's portfolio and 20% risk-free asset. (3 marks) Explain how to evaluate risk-adjusted returns of Stock A and Stock B by comparing their corresponding expected risk premiums and standard deviations respectively without involving calculations. (4 marks)
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