Question a,b

a) Consider investing money into two stocks. Suppose they have expected returns next year of 10% and 20%, respectively. Assume further that they have standard deviations of 15% and 25%, respectively, with a correlation of 50%. 1) What is the expected return on an equal-weighted portfolio of the two given stocks? (10 marks) 2) How do you get a portfolio with 18% expected return and what is the risk of this portfolio? (15 marks) 3) Suppose the two stocks have realized returns of 30% and -10% next year. What is the realized return of the equal-weighted portfolio, and what will be the value of your wealth if you started with $100? (10 marks) b) An investor whose utility function is ln(w) is faced with a gamble offering an 80% chance of winning $5 and a 20% chance of winning $30. 1) Calculate the investor's utility from the mean value of the gamble U(E(G)). (5 marks) 2) Calculate the investor's mean utility of the gamble E[U(G)]. (5 marks) 3) Compare the results obtained in 1) and 2) and state the investor's risk attitude. (5 marks) [TOTAL - 50 MARKS]