Question

Portfolio risk and return (S7.4) George Dupree proposes to invest in two shares, X and Y. He expects a return of 12% from X and 8% from Y. The standard deviation of returns is 8% for X and 5% for Y. The correlation coefficient between the returns is 0.2.

a. Compute the expected return and standard deviation of the following portfolios:

Portfolio Percentage in X Percentage in Y
1 50 50
2 25 75
3 75 25

Answer 1

The expected profit for a $1,000 investment in a company going public, with given probabilities of outcomes, is calculated to be $150 after one year.

Step-by-step explanation:

To calculate the expected profit of investing $1,000 into the stock of a company that potentially can go public within a year, we consider three scenarios with their respective probabilities:

• The investment becomes worthless with a probability of 35%.
• The investment retains its value of $1,000 with a probability of 60%.
• The investment increases in value by $10,000, meaning it will be worth $11,000, with a probability of 5%.

The expected profit can be calculated using the formula for expected value (EV):

EV = (Probability of Loss × Amount Lost) + (Probability of No Gain/Loss × Profit in this case) + (Probability of Gain × Profit from Gain)

In this case:

EV = (0.35 × -$1,000) + (0.60 × $0) + (0.05 × $10,000)

EV = -$350 + $0 + $500

EV = $150

The expected profit after one year, therefore, would be $150.