Stocks offer an expected rate of return of 10% with a standard deviation of 20%, and gold offers an expected return of 5% with a standard deviation of 25%.

(a) In light of the apparent inferiority of gold to stocks with respect to both mean return and volatility, would anyone hold gold? If so, demonstrate graphically why one would do so.

(b) How would you answer (a) if the correlation coefficient between gold and stocks were 1? Could these expected returns, standard deviations, and correlation represent an equilibrium for the security market?

#2. Assume that you manage a risky portfolio with an expected rate of return of 17% and a standard deviation of 27%. The T-bill rate is 7%. Your client choose to invest 70% of a portfolio in your fund and 30% in a T-bill money market fund.

(a) What is the expected return and standard deviation of your clients portfolio?

(b) What is the Sharpe ratio of your risky portfolio and your clients overall portfolio?

(c) Draw the CAL of your portfolio on an expected return/standard deviation diagram. What is the slop of the CAL? Show the position of your client on your funds CAL.