Fill This Form To Receive Instant Help
Fill This Form To Receive Instant Help
Homework answers / question archive / 1)You just won the lottery
1)You just won the lottery. Congratulations! The jackpot is $85,000,000, paid in 10 equal annual payments. The first payment on the lottery jackpot will be made today. In present value terms, you really won assuming annual interest rate of 9.50%.
2)You are given the following information on the future states of the economy and returns for 2 risky securities i and j. Assume that the Risk-Free rate of interest is 2.0% per year. Scenario Probability Very Good 25.00% Return for Security Return for Security i j -20.00% 5.00% 10.00% 20.00% 30.00% -12.00% Good 25.00% 25.00% Average Poor 25.00% 50.00% 9.00% Compute the following items:
1, Client Harry walks in with $100 and wants an Expected Return of 8.0% in the next year.
How much should Harry invest in the Risk-free rate?( 1 DP: e.g.: $1234.5)
2, How much should Harry Invest in Security i? (1 DP: e.g.: $1234.5)
3, How much should Harry Invest in Security j? (1 DP: e.g.: $1234.5)
4, What is Harry's Portfolio's Standard Deviation? (4DP: e.g.: 0.1234)
5, Client Bill walks in with $1,000,000 and wants a Standard Deviation of 10% in the next year.
What is Bill's Expected Return?( 4DP: e.g.: 0.1234)
1)please see the attached file.
2)
The Returns for each security along with the probability of such return will give the expected return and the standard deviations for each security
For the risk free security expected return is the same in all scenarios (good, average etc) and is 2%, whereas the standard deviation, a measure of risk, is nil
For the security i and j it is worked out as below
Ans 1. Given the above return expectations for Harry, if harry invests only in risk free security, he cannot meet 8% return expectation. On the other hand if he invests equally or 33% in all the assets (risk free, security i, security j ) then he will get
= (2%*.33) + (17.5%*.33 )+ (11.5%*.33 )
= 8.33%
This meets his expectations.
Thus he cannot invest more than 1/3 or $33.3 in risk free to meet the expected return of 2%.
Ans 2. Harry can increase his allocation to security j to even 66.6% but he will be taking more risk (Standard deviation is the measure of risk given by .26 for Security j, compared to .12 for Security j and 0 for risk free investment.
In such a case his returns are 12.33% (=0.175*0.6666+0.055*0+0.02*0.3333)
So he must invest only 1/3 or $33.3 in Security i
Ans 3. Harry''s allocation to security j is limited by the assumption that he must invest in risk free assets for 33.3% of portfolio. Then, if he puts in 66.66% in Security j he will fall short of his targeted 8% return. This is because:
=0.055*0.6666+0.02*0.3333 = 4.333%
He cab invest anywhere between $0 to 33.33 dollars in security j to get the desired return. (Even if he puts 100% in j, he will get only 5.5%, so he must allocate some portion to i also as explained earlier). Thus an equal allocation to all the three is best combination. Or $33.3 in Security j also is best investment.
Ans 4: Standard deviation of portfolio is the weighted average of the SD of the individual stocks
If the allocation is equal as already explained, then SD is:
=(0.26*0.33)+(0.12*0.33)+(0*0.33) =0.1254
Please use this google drive link to download the answer file.
https://drive.google.com/file/d/11ZMcWAFJ2OJKqZNeIvZkAAJbfjyBXkGr/view?usp=sharing
Note: If you have any trouble in viewing/downloading the answer from the given link, please use this below guide to understand the whole process.
https://helpinhomework.org/blog/how-to-obtain-answer-through-google-drive-link
