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    Tutorial 4 Questions

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    hrfjbjrfrf
    This document contains two conceptual questions about risk aversion and portfolio optimization. The first question provides a scenario to assess risk aversion based on the maximum price willing to pay for a lottery ticket. The second question involves calculating the utility, capital market line, and efficient frontier for various investment options to determine the optimal portfolio allocation for investors with different risk preferences.

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    Tutorial 4 Questions

    Uploaded by

    hrfjbjrfrf
    26 views3 pages
    This document contains two conceptual questions about risk aversion and portfolio optimization. The first question provides a scenario to assess risk aversion based on the maximum price willing to pay for a lottery ticket. The second question involves calculating the utility, capital market line, and efficient frontier for various investment options to determine the optimal portfolio allocation for investors with different risk preferences.

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    This document contains two conceptual questions about risk aversion and portfolio optimization. The first question provides a scenario to assess risk aversion based on the maximum price willing to pay for a lottery ticket. The second question involves calculating the utility, capital market line, and efficient frontier for various investment options to determine the optimal portfolio allocation for investors with different risk preferences.

    Copyright:

    © All Rights Reserved
    Download as DOCX, PDF, TXT or read online from Scribd
    Download as docx, pdf, or txt
    26 views3 pages

    Tutorial 4 Questions

    Uploaded by

    hrfjbjrfrf
    This document contains two conceptual questions about risk aversion and portfolio optimization. The first question provides a scenario to assess risk aversion based on the maximum price willing to pay for a lottery ticket. The second question involves calculating the utility, capital market line, and efficient frontier for various investment options to determine the optimal portfolio allocation for investors with different risk preferences.

    Copyright:

    © All Rights Reserved
    Download as DOCX, PDF, TXT or read online from Scribd
    Download as docx, pdf, or txt
    of 3

    Tutorial 4

    Conceptual question
    This question has used in a survey to test the comparative levels of risk aversions:
    There will a prize draw to win $5,000. Only Ten tickets will be sold (each of them has a equal
    chance of winning).
    How much you are willing to pay for a ticket? At what price would it be a fair game?

    Risk of aversion:
    -If you are willing to pay $0, you are extremely risk averse.
    -If you are willing to pay less than $250, you are still “high” risk averse.
    -If you are willing to pay higher than $250 and lower than $500, you are “low” risk averse.
    -If you are willing to pay $500, you are risk neutral
    -If you are willing to pay above $500 to $5000, you are risk lover
    -If you are willing o pay more than $5000, you are stupid.

    Problem Solving Questions


    1. You are given the following data on five investments.

    Investment Expected Return Standard Deviation


    1 0.12 0.30
    2 0.15 0.50
    3 0.21 0.16
    4 0.21 0.20
    5 0.24 0.21
    6 0.24 0.25

    If, Utility is given by U=E(r) – ½ Aσ2, answer the following:


    a. If you are risk averse with A=4, which investment would you choose?

    Investment Expected Return Standard Deviation Utility


    1 0.12 0.30 -0.06
    2 0.15 0.50 -0.25
    3 0.21 0.16 0.1588
    4 0.21 0.20 0.1300
    5 0.24 0.21 0.1518
    6 0.24 0.25 0.1150

    Investment 3– highest satisfactions

    A risk averse investor with A=5 is more likely to choose investment 3 for providing highest
    level of utility (satisfaction).
    b. Without doing any calculation, answer that if your level of risk aversion is higher
    than 4, would you get higher utility or lower utility from each of the above
    investments?

    Lower utility value – risk lover / risk neutral, easier to satisfy


    Higher utility value = risk averse, more difficult to satisfy

    c. If you were risk neutral, which investment would you choose?

    Risk neutral, A=0

    -Any investment giving you highest return


    -only expected return is the only relevant factors that affected his or her
    investment options

    d. If you were risk lover, which investment would you choose in between investment 3
    and 4?

    Investment 4, because it has higher risks as compared to investment 3.

    2. You estimate that a passive portfolio (using the S&P 500 index) yields an expected return
    of 10% with a standard deviation of 13%. You manage an active portfolio (P), where
    E(Rp)= 11% and σp=15%; the risk-free rate, Rf=5%.
    a. Draw the CML for the passive portfolio.

    Rf

    b. What is the slope of CML

    Sharpe ratio for passive portfolio

    c. Which portfolio is better in performance?

    Explain through sharp ratio - active portfolio


    d. Also Draw the CAL to show all possible combinations of Rf and P that an investor can
    select.

    e. Your client wants to invest a proportion of her total investment budget in your risky
    active portfolio to provide an expected rate of return on her complete portfolio
    equal to 8%. What proportion should she invest in the risky portfolio, P, and what
    proportion in the Risk-free assets? What will be the standard deviation on her
    portfolio?

    f. Another client wants the return on her complete portfolio to be 9%. What
    proportion should she invest in the risky portfolio, P, and what proportion in the
    Risk-free assets? What will be the standard deviation on her portfolio?

    g. A third client wants the highest return possible subject to the constraint that you
    limit his standard deviation to be no more than 12%. What proportion should he
    invest in the risky portfolio, P, and what proportion in the Risk-free assets? What will
    be the expected return on his portfolio

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