Risk-return trade-off

Investors like expected returns and dislike variance.

a) (1 point) There are 2 assets available: Asset 1 Asset 2 Expected return 4% 40% Standard deviation 0 20% Compute the capital market line (expected return as a function of the standard deviation; you don't have to draw it).

b) (1 point) There are 2 assets available: Asset 3 Asset 4 Expected return 5% 25% Standard deviation 0 15% Compute the capital market line (expected return as a function of the standard deviation; you don't have to draw it).

c) (1 point) You, as an investor, decide that the maximum standard deviation you can tolerate is 10%. Would you prefer to have access to Assets 1 and 2 OR to Assets 3 and 4? Please explain your answer.

d) (1 point) There is an investor maximizing the expected return subject to not exceeding her/his maximum standard deviation. The investor is indifferent between having access to Assets 1 and 2 versus having access to Assets 3 and 4. What is the maximum standard deviation the investor is willing to tolerate?