Q1. You are assigned to implement a Single-Index model in order to determine the optimal investment allocation across an equity fund and a debt fund (similar to those in Group Assignment 2). The equity and debt funds have expected returns of 13% and 8%, respectively. The two funds are assessed against the S&P500 index (as the market index). The table below displays parts of the facts from the security analysis department. This time, on top of the equity and debt funds, the risky portfolio will also contain investment in a mutual fund that mimics S&P500 index with expected return of 9%. That is, the risky portfolio contains a passive (market) portfolio and an active portfolio (composed of the equity and debt funds). Risk-free rate is 2%. 1. Use the 8-step procedure discussed in class to shape the Sharp ratio-maximizing risky portfolio of your client-explicitly solve for weight of each asset in the optimal risky portfolio. 2. Calculate the Sharpe ratio of the resulting optimal portfolio (note that there are three risky assets in the optimal portfolio). [Hint: recall that variance of excess return on asset i is i2= i2m2+2(ei)] Asset SD of risk premium beta alpha SD of market component SD of residual Cov with S&P 500 S&P 500 0.1358 1 0 0.1358 0 0.0184 Debt 0.12 0.62 0.0013 0.0038 Equity 0.2 1.12 0.0028 0.0081 View comments (1)