ECON 133 Chapter 5 and 6 Problems

Complete the following:1. Chapter 5: problem sets, numbers 5, 6, and 11, and CFA problems, numbers 1 and 102. Chapter 6: problem sets, number 21, and CFA problems, number 2APA format is not required, but solid academic writing is expected.Answers should be submitted using an Excel spreadsheet in order to show all calculations, where applicable.5. Suppose your expectations regarding the stock market are as follows:State of the Economy Probability HPRBoom 0.3 44%Normal growth 0.4 14Recession 0.3 216Use Equations 5.6–5.8 to compute the mean and standard deviation of the HPR onstocks. (LO 5-4)6. The stock of Business Adventures sells for $40 a share. Its likely dividend payoutand end-of-year price depend on the state of the economy by the end of the year asfollows: (LO 5-2)Dividend Stock PriceBoom $2.00 $50Normal economy 1.00 43Recession .50 34a. Calculate the expected holding-period return and standard deviation of the holdingperiodreturn. All three scenarios are equally likely.www.mhhe.com/bkmb. Calculate the expected return and standard deviation of a portfolio invested half inBusiness Adventures and half in Treasury bills. The return on bills is 4%.11. Consider a risky portfolio. The end-of-year cash flow derived from the portfolio will beeither $50,000 or $150,000, with equal probabilities of .5. The alternative risklessinvestment in T-bills pays 5%. (LO 5-3)a. If you require a risk premium of 10%, how much will you be willing to pay for theportfolio?b. Suppose the portfolio can be purchased for the amount you found in ( a ). What willthe expected rate of return on the portfolio be?c. Now suppose you require a risk premium of 15%. What is the price you will be willingto pay now?d. Comparing your answers to ( a ) and ( c ), what do you conclude about the relationshipbetween the required risk premium on a portfolio and the price at which the portfoliowill sell?1. A portfolio of nondividend-paying stocks earned a geometric mean return of 5%between January 1, 2005, and December 31, 2011. The arithmetic mean return forthe same period was 6%. If the market value of the portfolio at the beginning of2005 was $100,000, what was the market value of the portfolio at the end of2011?10. Probabilities for three states of the economy and probabilities for the returns on aparticular stock in each state are shown in the table below.State of EconomyProbability ofEconomic StateStockPerformanceProbability of StockPerformance in GivenEconomic StateGood .3 Good .6Neutral .3Poor .1Neutral .5 Good .4Neutral .3Poor .3Poor .2 Good .2Neutral .3Poor .5What is the probability that the economy will be neutral and the stock will experiencepoor performance?Chapter 621. The following figure shows plots of monthly rates of return and the stock market fortwo stocks. (LO 6-5)a. Which stock is riskier to an investor currently holding her portfolio in a diversifiedportfolio of common stock?b. Which stock is riskier to an undiversified investor who puts all of his funds in onlyone of these stocks?2. George Stephenson’s current portfolio of $2 million is invested as follows:Summary of Stephenson’s Current PortfolioValuePercent ofTotalExpectedAnnualReturnAnnualStandardDeviationShort-term bonds $ 200,000 10% 4.6% 1.6%Domestic large-cap equities 600,000 30 12.4 19.5Domestic small-cap equities 1,200,000 60 16.0 29.9Total portfolio $2,000,000 100% 13.8% 23.1%Stephenson soon expects to receive an additional $2 million and plans to invest the entireamount in an index fund that best complements the current portfolio. Stephanie Coppa,CFA, is evaluating the four index funds shown in the following table for their ability toproduce a portfolio that will meet two criteria relative to the current portfolio: (1) maintainor enhance expected return and (2) maintain or reduce volatilityEach fund is invested in an asset class that is not substantially represented in thecurrent portfolio.Index Fund CharacteristicsIndex FundExpected AnnualReturnExpected AnnualStandard DeviationCorrelation of Returnswith Current PortfolioFund A 15% 25% 10.80Fund B 11 22 10.60Fund C 16 25 10.90Fund D 14 22 10.65State which fund Coppa should recommend to Stephenson. Justify your choice bydescribing how your chosen fund best meets both of Stephenson’s criteria. No calculationsare required.