Your client has a choice between two investment portfolios:

(i) An actively managed portfolio with an expected rate of return of 8% and a standard deviation of 15%.

(ii) A passive portfolio tracking the FTSE All Share index which yields an expected rate of return of 6% with a standard deviation of 12%.

The risk free interest rate is 2%.

(a) Use the concept of capital allocation line (CAL) and capital market line (CML) to explain to the client which of the two portfolios provides a better choice of investment. You should support your explanation with drawings of CAL and CML and numerical calculations. (12 marks)

(b) What further advice might you offer the client if he believes that the market is efficient? (3 marks)

(c) Fund A produced a return of 14% and had a beta of 1.6 in 2017. In contrast Fund B produced a return of only 9% with a beta of 0.9.

If the risk free rate was 3% and the market return during the period was 9% which Fund produced the better performance? (4 marks)

(d) Explain briefly the concept of the Separation Theorem. (6 marks)