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    FM09-CH 05

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    Mukul Kadyan
    This chapter discusses portfolio theory and asset pricing models. It includes 7 problems that calculate measures like expected return, variance, standard deviation, covariance, and correlation for various securities and portfolios. Optimal portfolio weights are also calculated using formulas that incorporate variance, covariance, and correlation between assets.

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    FM09-CH 05

    Uploaded by

    Mukul Kadyan
    174 views4 pages
    This chapter discusses portfolio theory and asset pricing models. It includes 7 problems that calculate measures like expected return, variance, standard deviation, covariance, and correlation for various securities and portfolios. Optimal portfolio weights are also calculated using formulas that incorporate variance, covariance, and correlation between assets.

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    © © All Rights Reserved

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    This chapter discusses portfolio theory and asset pricing models. It includes 7 problems that calculate measures like expected return, variance, standard deviation, covariance, and correlation for various securities and portfolios. Optimal portfolio weights are also calculated using formulas that incorporate variance, covariance, and correlation between assets.

    Copyright:

    © All Rights Reserved
    Download as PDF, TXT or read online from Scribd
    Download as pdf or txt
    174 views4 pages

    FM09-CH 05

    Uploaded by

    Mukul Kadyan
    This chapter discusses portfolio theory and asset pricing models. It includes 7 problems that calculate measures like expected return, variance, standard deviation, covariance, and correlation for various securities and portfolios. Optimal portfolio weights are also calculated using formulas that incorporate variance, covariance, and correlation between assets.

    Copyright:

    © All Rights Reserved
    Download as PDF, TXT or read online from Scribd
    Download as pdf or txt
    of 4

    Ch.

    5: Risk and Return: Portfolio Theory and Assets Pricing Models

    CHAPTER 5
    Risk and Return:
    Portfolio Theory and Assets Pricing Models
    Problem 1

    Return (ri) Prob. (p) (ri) × p (ri - 0.119)2 × p


    0.20 0.10 0.020 0.00066
    0.18 0.45 0.081 0.00167
    0.08 0.30 0.024 0.00046
    - 0.05 - 0.00071
    - 0.06 0.10 - 0.006 0.00320
    0.119
    Expected = 11.9%
    Variance 0.00670
    0.08185
    Stadev = 8.2%

    Problem 2

    Security X Security Y
    Return Prob. Return Prob.
    (ri) (p) (ri) × p (ri - 0.11)2 × p (ri) (p) (ri) × p (ri - 0.205)2 × p
    (9)
    (1) (2) (3) (4) (5) (6) (7) (8) = (4) x (7)
    0.30 0.10 0.030 0.0036 -0.20 0.05 -0.010 0.0082 -0.00038475
    0.20 0.20 0.040 0.0016 0.10 0.25 0.025 0.0028 -0.00047250
    0.10 0.40 0.040 0.0000 0.20 0.30 0.060 0.0000 0.00000600
    0.05 0.20 0.010 0.0007 0.30 0.30 0.090 0.0027 -0.00034200
    -0.10 0.10 -0.10 0.0044 0.40 0.10 0.040 0.0038 -0.00040950
    Expected 0.110 0.205
    Variance 0.01040 0.01748
    Stadev 0.10198 0.13219
    Covar -0.00160275
    Portfolio return = 0.110 × 0.5 + 0.205 × 0.5 = 0.1575 or 15.75%

    Portfolio standard deviation = 0.0104 × .52 + 0.01748 × .52 + 2 × .5 × .5 × −0.00160275 = 0.0785 or 7.85%

    Problem 3

    Security P Market Portfolio


    Prob. Return
    (p) (ri) (ri) × p (ri - 0.11)2 × p Return (ri) (ri) × p (ri - 0.205)2 × p
    (9)
    (1) (2) (3) (4) (5) (7) (8)

    0.30 0.30 0.090 0.0068 - 0.10 - 0.030 0.0188 -0.01125

    0.30 0.20 0.060 0.0008 0.20 0.060 0.0008 0.00075

    0.40 0.00 0.00 0.0090 0.30 0.120 0.0090 -0.00900

    Expected 0.150 0.150

    Variance 0.01650 0.02850

    Stadev 0.12845 0.16882


    Covar -0.0195
    Beta -0.684

    1
    I. M. Pandey, Financial Management, 9th Edition, New Delhi: Vikas.

    Problem 4

    STDEV Y (%) STDEV M (%) Corr YM


    20 15 0.7 0.4 -0.25
    Beta of Y
    Beta (β) = (corrYM σY σM)/σ2M 0.93 0.53 -0.33

    Problem 5

    New Security
    RN (%) Prob., p RN x p (%) (RN-ER)2 × p
    40 0.3 12 108.3
    30 0.4 12 32.4
    -10 0.3 -3 288.3
    ER = 21
    Variance 429.0
    STDEV =√429 =20.71 20.71
    ER (%) 21
    Portfolio return, RP (%) 18
    Portfolio STDEV, σP (%) 25
    Correlation between new security and portfolio 0.25
    New Portfolio return (%) 21 x 0.05 + 18 x 0.95 18.15
    New Portfolio STEV (%)
    20.712 × .052 + 252 × .952 + 2 × .05 × .95 × .25 × 20.71 × 25 23.75

    Problem 6

    Sunrise Sunset Sunrise Sunset Sunrise Sunset


    Prob., p Return Return Expected ret. Expected ret. Deviation x p Deviation x p Covar.
    (1) (2) (3) (4)=(1×2) (5)=(1×3) (6)=[(2-ER)×1] (7)=[(3-ER) ×1] (8)
    0.1 32 30 3.20 3.00 44.94 63.50 53.42
    0.2 20 17 4.00 3.40 16.93 29.77 22.45
    0.4 14 6 5.60 2.40 4.10 0.58 1.54
    0.2 -5 -12 -1.00 -2.40 49.93 56.45 53.09
    0.1 -10 -16 -1.00 -1.60 43.26 43.26 43.26
    ER 10.80 4.80 159.16 193.56 173.76
    STDEV = 12.62 STDEV = 13.91

    Sunrise Sunset
    STDEV STDEV Covariance Correlation
    12.62 13.91 173.76 0.99
    Correlation is found as follows:
    173.76 173.76
    Correlation = = = 0.99
    12.62 × 13.91 17554.

    2
    Ch. 5: Risk and Return: Portfolio Theory and Assets Pricing Models

    Problem 7

    P Q
    E( r ) 18 15
    STDEV 23 19
    Correlation 0 -1.00
    Covariance corrPQ x σP x σQ 0 -437

    3
    I. M. Pandey, Financial Management, 9th Edition, New Delhi: Vikas.

    Optimum weight of P 0.406 0.452


    Optimum weight of Q 0.594 0.548
    Optimum weight of P is calculated using the following formula:
    σ 2Q − cov arPQ
    w *P = 2
    σ P + σ 2Q - 2 cov arPQ
    cov arPQ = 0, then
    19 2 − 0 361
    w *P = = = 0.406
    23 + 19 2 − 2 × 0
    2
    890
    w *Q = 1 − 0.406 = 0.594

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