Final answer:
The expected return of a portfolio of risky securities is the weighted average of the expected returns of each security, reflecting their proportionate investment. High-risk investments tend to offer higher potential returns to compensate for the increased risk. The fundamental relationship between risk and expected return guides investment strategies and portfolio construction.
Step-by-step explanation:
The expected return of a portfolio of risky securities is a critical concept in finance and investing, particularly in the construction of an investment portfolio. The expected return is a weighted average of the expected returns of each individual security within the portfolio, with the weights corresponding to the proportion of the investment in each security. This calculation is fundamental to modern portfolio theory and the efficient frontier, which allows investors to maximize returns for a given level of risk.
As for the relationship between risk and return, it is important to understand that with higher risk comes the potential for higher returns, but also the potential for greater losses. This trade-off between risk and expected return is at the heart of investment decision-making. Stocks, for example, are generally considered to be riskier than bonds or savings accounts, but they also have historically offered higher average returns.
The concept of principal and simple interest calculation, as in the provided formula, also plays a role in finance. However, it is distinct from evaluating the expected returns of risky securities. Such calculations are essential when considering the growth of investments over time without the additional complexities of risk.
Overall, understanding the expected return on investment and the factors influencing it, including individual security returns, portfolio composition, and associated risks, is fundamental for making informed investment choices.