Suppose you were assigned to manage the ENMB portfolio which is composed of two risky asset - Shares A and Share B (see table below).
Name of asset Standard deviation Expected return Weight in risky portfolio
Share A σA = 28% E(rA) = 18% 55%
Share B ΣB = 19% E(rB) = 10% 45%
Treasury Bill
(i.e. the risk free rate (rf)) σrf =0% E(rrf) = 6%
Correlation between Shares A and B (ρAB) 0.65
3.1 Calculate the expected rate of return on the ENMB portfolio. [2 marks]
3.2 Calculate the expected risk premium on the ENMB portfolio. [2 marks]
3.3 Calculate the variance and standard deviation of return on the ENMB portfolio. [4 marks]
3.4 Suppose you have a client who chose to invest 75% of his funds in the current ENMB portfolio and 25% in Treasury Bills. Draw the Capital Allocation Line (CAL) applicable to your client’s portfolio. Remember to indicate the slope as well. [4 marks]
3.5 Calculate and indicate the following on the CAL graph:
3.5.1 Your client’s expected return. [2 marks]
3.5.2 Your client’s portfolio risk. [3 marks]
3.6 Calculate how the expected return (as was done in question 3.1) and expected standard deviation (as was done in question 3.3) of the ENMB portfolio would change if the correlation between Share A and Share B (ρAB) was not 0.65, but instead as follows:
3.6.1 ρAB = 0.95
3.6.2 ρAB = 0.50
3.6.3 ρAB = 0.00
3.6.4 ρAB = -0.30