You form a portfolio that invests 60% of total funds in stock X and 40% in stock Z. Two

possible outcomes exist. The probability is 45% that the first outcome occurs, in which

case the rates of return equal 20% for X and 20% for Z. The probability is 55% that the

second outcome occurs, in which case the rates of return equal 25% for X and 16% for

Z.

CLUES: X= 2.5% Z= 2.0%

Find the diversification benefit, measured as the standard deviation reduction in basis

points (BP), that the portfolio provides if the correlation coefficient is -1.

{ANSWER: C}

/\a. 233 BP b. 175 BP c. 159 BP d. 193 BP e. 212 BP

PLEASE SHOW ALL STEPS!! and please do NOT answer in Excel :)