Question

You own a portfolio that has 4,100 shares of stock A, which is priced at 17.1 dollars per share and has an expected return of 8.32 percent, and 3,700 shares of stock B, which is priced at 27.4 dollars per share and has an expected return of 12.13 percent. The risk-free return is 3.33 percent and inflation is expected to be 2.33 percent. What is the expected real return for your portfolio? Answer as a rate in decimal format so that 12.34% would be entered as .1234 and 0.98% would be entered as .0098.

Answer 1

Solution :- Value of Stock A = 4100 * 17.10 = $ 70110.

Value of Stock B = 3700 * 27.40 = $ 101380.

Total portfolio value = Value of stock A + Value of stock B

= 70110 + 101380

= $ 171490.

Weight of stock A = Value of stock A / Total portfolio value

= 70110 / 171490

= 0.41

Weight of stock B = Value of stock B / Total portfolio value

= 101380 / 171490

= 0.59

Weighted average return of portfolio = Weight of stock A * Expected return of stock A + Weight of stock B * Expected return of stock B.

= 0.41 * 8.32 % + 0.59 * 12.13 %

= 3.4112 % + 7.1567 %

= 10.5679 %

Expected real return of portfolio = Weighted average return of portfolio - Inflation rate.

= 10.5679 % - 2.33 %

= 8.2379 % i.e., 0.082379 (Rounded off to 0.0824)

Conclusion :- Expected real return of portfolio = 8.24 % or 0.0824