Principles of Managerial Finance

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CHAPTER 5 Risk and Return 253

b. Calculate the standard deviation, k, for each of the three assets’ returns.

Which appears to have the greatest risk?

c. Calculate the coefficient of variation, CV,for each of the three assets’

returns. Which appears to have the greatest relativerisk?

5–11 Normal probability distribution Assuming that the rates of return associated

with a given asset investment are normally distributed and that the expected

return, k,is 18.9% and the coefficient of variation, CV,is .75, answer the fol-

lowing questions.

a. Find the standard deviation of returns, k.

b. Calculate the range of expected return outcomes associated with the follow-

ing probabilities of occurrence: (1) 68%, (2) 95%, (3) 99%.

c. Draw the probability distribution associated with your findings in parts a

and b.

5–12 Portfolio return and standard deviation Jamie Wong is considering building a

portfolio containing two assets, L and M. Asset L will represent 40% of the

dollar value of the portfolio, and asset M will account for the other 60%. The

expected returns over the next 6 years, 2004–2009, for each of these assets, are

shown in the following table.

a. Calculate the expected portfolio return, kp,for eachof the 6 years.

b. Calculate the expected value of portfolio returns, kp,over the 6-year period.

c. Calculate the standard deviation of expected portfolio returns, kp, over the

6-year period.

d. How would you characterize the correlation of returns of the two assets L

and M?

e. Discuss any benefits of diversification achieved through creation of the

portfolio.

5–13 Portfolio analysis You have been given the return data shown in the first table

on three assets—F, G, and H—over the period 2004–2007.

Expected return

Year Asset F Asset G Asset H

2004 16% 17% 14%

2005 17 16 15

2006 18 15 16

2007 19 14 17

Expected return

Year Asset L Asset M

2004 14% 20%

2005 14 18

2006 16 16

2007 17 14

2008 17 12

2009 19 10