Risk & Return And Portfolio Theory

There are three securities in the market. The following chart shows their possible payoffs State Probability of Return on Return on Return on Outcome Security 1 Security 2 Security 3 0.10 0.25 0.25 0.10 0.40 0.20 0.15 0.15 3 0.40 0.15 0.20 0.20 4 0.10 0.10 0.10 0.25 Correlation coefficients between returns Covariances Security 1 & 2 0.385 0.000625 Security 1 & 3 -1 -0.001625 Security 2 & 3 -0.385 -0.000625 a. What are the expected return and standard deviation of each security? (6 marks) b. What are the expected return and standard deviation of a portfolio with half of its funds invested in security 1 and half in security 2? (4 marks) c. What are the expected return and standard deviation of a portfolio with half of its funds invested in security 1 and half in security 3? (4 marks) d. What are the expected return and standard deviation of a portfolio with half of its funds invested in security 2 and half in security 3? (4 marks) e. What do your answers in parts (a), (b), (c), and (d) imply about diversification? (7 marks)