Question

Evaluate the following investments, and explain the “best” choice among Portfolios A, B, and C, assuming that borrowing and lending at a risk-free rate of ??=3 percent is possible.
Portfolio A: ?(??)=13% , ?(??)=15%
Portfolio B: ?(??)=10% , ?(??)=8%
Portfolio C: ?(??)=11% , ?(??)=14%

Answer 1

We will calculate the sharpe ratio of all the investment, It measures the investment return as compared to the risk associated with it, the portfolio that has best return as compared to the risk will be the best choice.

Sharpe Ratio = (Return of portfolio - Risk Free return) / Risk (Standard Deviation)

So, For Portfolio A

Sharpe Ratio = (13% - 3%) / 15%

= 10% / 15%

= 0.667

So, For Portfolio B

Sharpe Ratio = (10% - 3%) / 8%

= 7% / 8%

= 0.875

So, For Portfolio C

Sharpe Ratio = (11% - 3%) / 14%

= 8% / 14%

= 0.5714

So, The sharpe ratio of the Potfolio B is the highest, So, it is the best choice.