There are three securities in the market. The following chart shows their possible payoffs: State Probability of Outcome Return on Security 1 Return on Security 2 Return on Security 3 1 .14 .199 .199 .049 2 .36 .149 .099 .099 3 .36 .099 .149 .149 4 .14 .049 .049 .199 a-1. What is the expected return of each security? (Do not round intermediate calculations and enter your answers as a percent rounded to 2 decimal places, e.g., 32.16.) Answer 12.40% a-2. What is the standard deviation of each security? (Do not round intermediate calculations and enter your answers as a percent rounded to 2 decimal places, e.g., 32.16.) Answer 4.50% b-1. What are the covariances between the pairs of securities? (A negative answer should be indicated by a minus sign. Do not round intermediate calculations and round your answers to 5 decimal places, e.g., 32.16162.) Answer Security 1&2: 0.00113 Security 1&3: -0.00203 Security 2&3: -0.00113 b-2. What are the correlations between the pairs of securities? (A negative answer should be indicated by a minus sign. Do not round intermediate calculations and round your answers to 4 decimal places, e.g., 32.1616.) Answer Security 1&2: 0.5600 Security 1&3: -1 Security 2&3: -0.5600 c-1. What is the expected return of a portfolio with half of its funds invested in Security 1 and half in Security 2? (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.??????? c-2. What is the standard deviation of a portfolio with half of its funds invested in Security 1 and half in Security 2? (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)??????? d-1. What is the expected return of a portfolio with half of its funds invested in Security 1 and half in Security 3? (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)????? d-2. What is the standard deviation of a portfolio with half of its funds invested in Security 1 and half in Security 3? (Leave no cells blank - be certain to enter "0" wherever required.) Answer 0 e-1. What is the expected return of a portfolio with half of its funds invested in Security 2 and half in Security 3? (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)?????? e-2. What is the standard deviation of a portfolio with half of its funds invested in Security 2 and half in Security 3? (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)?????
Risk and return
Before understanding the concept of Risk and Return in Financial Management, understanding the two-concept Risk and return individually is necessary.
Capital Asset Pricing Model
Capital asset pricing model, also known as CAPM, shows the relationship between the expected return of the investment and the market at risk. This concept is basically used particularly in the case of stocks or shares. It is also used across finance for pricing assets that have higher risk identity and for evaluating the expected returns for the assets given the risk of those assets and also the cost of capital.
Question: There are three securities in the market. The following chart shows their possible payoffs: &n...
| There are three securities in the market. The following chart shows their possible payoffs: |
| State | Probability of Outcome |
Return on Security 1 | Return on Security 2 | Return on Security 3 |
| 1 | .14 | .199 | .199 | .049 |
| 2 | .36 | .149 | .099 | .099 |
| 3 | .36 | .099 | .149 | .149 |
| 4 | .14 | .049 | .049 | .199 |
| a-1. |
What is the expected return of each security? (Do not round intermediate calculations and enter your answers as a percent rounded to 2 decimal places, e.g., 32.16.) Answer 12.40% |
| a-2. |
What is the standard deviation of each security? (Do not round intermediate calculations and enter your answers as a percent rounded to 2 decimal places, e.g., 32.16.) Answer 4.50% |
| b-1. |
What are the covariances between the pairs of securities? (A negative answer should be indicated by a minus sign. Do not round intermediate calculations and round your answers to 5 decimal places, e.g., 32.16162.) Answer Security 1&2: 0.00113 Security 1&3: -0.00203 Security 2&3: -0.00113 |
| b-2. |
What are the correlations between the pairs of securities? (A negative answer should be indicated by a minus sign. Do not round intermediate calculations and round your answers to 4 decimal places, e.g., 32.1616.) Answer Security 1&2: 0.5600 Security 1&3: -1 Security 2&3: -0.5600 |
| c-1. |
What is the expected return of a portfolio with half of its funds invested in Security 1 and half in Security 2? (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.??????? |
| c-2. |
What is the standard deviation of a portfolio with half of its funds invested in Security 1 and half in Security 2? (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)??????? |
| d-1. |
What is the expected return of a portfolio with half of its funds invested in Security 1 and half in Security 3? (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)????? |
| d-2. |
What is the standard deviation of a portfolio with half of its funds invested in Security 1 and half in Security 3? (Leave no cells blank - be certain to enter "0" wherever required.) Answer 0 |
| e-1. |
What is the expected return of a portfolio with half of its funds invested in Security 2 and half in Security 3? (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)?????? |
| e-2. |
What is the standard deviation of a portfolio with half of its funds invested in Security 2 and half in Security 3? (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)????? |
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