Question 16

Kamet is an investment fund that invests on the Ghana Stock Exchange. In recent times the economy has gone through four different cycles which analyst believe may be repeated in the years ahead. Kamet is reviewing its investment strategy and is looking for the best way to make good returns for its clients. The returns on three assets selected by Kamet are provided below:

Business Cycle	Probability	Unilever	Starwin	Anglogold
Normal	0.30	40%	40%	30%
Boom	0.40	20%	45%	40%
Near Recession	0.10	20%	30%	15%
Recession	???	12%	50%	30%

You are required to:

1. Compute the expected return and risk of each asset and advise Kamet as to which asset to invest more funds in on the basis of:

1. expected return on the assets
2. riskiness of the assets (Hint: compute the coefficient of variation of each asset and select the asset with the lowest coefficient of variation; (CV= )

2. Kamet has just informed you of three strategies (a), (b) and (c) that it wants to use.

1. In this strategy, Kamet will invest in the order of expected return hence the highest proportion of its funds is to be invested starting from the asset that yields the highest expected return irrespective of the risk level. The order is as follows:

Assets	1st Measured by Return	2nd Measured by Return	3rd Measured by Return
Percentage of funds invested	45%	35%	20%

(b). In this strategy, Kamet will invest in the order of riskiness of the assets hence the highest proportion of its funds is to be invested starting from the assets with the lowest risk irrespective of the expected return. The order is as follows.

Assets	1st Measured by Risk	2nd Measured by Risk	3rd Measured by Risk
Percentage of funds invested	50%	30%	20%

(c). In this strategy, Kamet will invest in the order shown below

Assets	Unilever	Starwin	Anglogold
Percentage of funds invested	30%	30%	40%

Compute the portfolio expected return for each of the strategies (a), (b), and (c) and advise Kamet as to the best strategy to select on the basis of the expected return you have computed.

Question 17

a). Consider the following information

Invest 50% of your money in Asset A

State	Probability	A	B
Boom	.40	40%	5%
Bust	.60	-15%	20%

1. What are the expected return and standard deviation for each asset?
2. What are the expected return and standard deviation for the portfolio?

b). E(R_A)= 6%; Std. Dev.(A) = 19%; E(R_B)= 13%; std. Dev.(B) = 14%, corrA,B= -0.9. Estimate the portfolio standard deviation if 50% of the wealth is invested in each stock.

c). Your portfolio is comprised of 20 percent of stock X, 60 percent of stock Y, and 20 percent of stock Z. Stock X has a beta of .67, stock Y has a beta of 1.8, and stock Z has a beta of 1.04. What is the beta of your portfolio?

d). The common stock of Flavorful Teas has an expected return of 16.4 percent. The return on the market is 12 percent and the risk-free rate of return is 3.8 percent. What is the beta of this stock?

e). Which one of the following stocks is correctly priced if the risk-free rate of return is 2.5 percent and the market risk premium is 8 percent?

Stock Beta Expected Return

A 0.68 8.2%

B 1.42 13.9%

C 1.23 11.8%

D 1.31 12.6%

E 0.94 9.7%

f). Consider the following information

State	Probability	X	Z
Boom	.20	10%	10%
Normal	.45	10%	15%
Recession	.35	5%	10%

What is the expected return and standard deviation for a portfolio with an investment of $4000 in asset X and $6000 in asset Z?