6: The Trade-Off Between Risk and ReturnNominal returns (%) on shares, bonds and bills
1920s 1930s
Shares Bonds Bills Shares Bonds Bills
1920 –17.9 5.8 7.6 1930 –28.3 4.7 2.4
1921 11.6 12.7 7.0 1931 –43.9 –5.3 1.1
1922 30.6 3.5 4.7 1932 –9.8 16.8 1.01923 3.0 5.7 5.2 1933 57.6 –0.1 0.3
1924 27.0 6.4 4.1 1934 4.4 10.0 0.2
1925 28.3 5.7 4.1 1935 44.0 5.0 0.2
1926 9.5 7.8 3.3 1936 32.3 7.5 0.2
1927 33.1 8.9 3.1 1937 –34.6 0.2 0.3
1928 38.7 0.1 3.6 1938 –8.2 5.5 0.0
1929 –14.5 3.4 4.7 1939 2.9 5.5 0.0
Source: Dimson, Elroy, Triumph of the Optimists. © 2002 Elroy Dimson, Paul Marsh and Mike Staunton.
Princeton University Press. Reprinted by permission of Princeton University Press.P6-20 Use the data below to calculate the standard deviation of nominal and real Treasury bill returns from
1972–82. Do you think that when they purchased T-bills, investors expected to earn negative real
returns as often as they did during this period? If not, what happened that took investors by surprise?
Year Nominal return (%) Real return (%)
1972 3.8 0.4
1973 6.9 –1.7
1974 8.0 –3.7
1975 5.8 –1.1
1976 5.1 0.3
1977 5.1 –1.5
1978 7.2 –1.7
1979 10.4 –2.6
1980 11.2 –1.0
1981 14.7 5.3
1982 10.5 6.4
Source: Dimson, Elroy, Triumph of the Optimists. © 2002 Elroy Dimson, Paul Marsh and Mike
Staunton. Princeton University Press. Reprinted by permission of Princeton University Press.P6-21 Based on Figure 6.6, about what rate of return would a truly risk-free investment (one with a
standard deviation of zero) offer investors?
THE POWER OF DIVERSIFICATION
P6-22 Troy McClain wants to form a portfolio of four different shares. Summary data on the four shares
follows. First, calculate the average standard deviation across the four shares, then answer this
question: if Troy forms a portfolio by investing 25% of his money in each of the shares in the table,
is it very likely that the standard deviation of this portfolio’s return will be (more than, less than,
equal to) 43.5%? Explain your answer.
Share Return Std. dev.
1 14% 71%
2 10% 46%
3 9% 32%
4 11% 25%