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We have discussed in class the idea that one may measure an investor's risk tolerances to different investment scenarios and then develop a mathematical model
We have discussed in class the idea that one may measure an investor's risk tolerances to different investment scenarios and then develop a mathematical model to describe the satisfaction or utility that an investor derives from his or her investments. This mathematical function is typically called a "utility" function and greater values of utility mean greater investor satisfaction. Consider the following investor utility function U = E(r) - (A/2)o where U is the inventor's utility, E() is a portfolio's expected return, A is a parameter related to the investor's risk aversion, and o is a portfolio's standard deviation. 1A) (8 points) A portfolio has an expected return of 0.15 and a standard deviation of 0.15. The risk-free rate is 0.06. What value of A in the above utility function makes this investor indifferent between the risky portfolio and the risk-free asset? (In your calculations, use return and standard deviation in decimal form as above, i.e., use 0.15, not 15)
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