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You are trying to build the best possible risky portfolio for your investment clients. You have...

You are trying to build the best possible risky portfolio for your investment clients. You have two risky assets available to you: A risky stock with an expected excess return of 0.281 and a standard deviation of 0.83, and a risky bond with an expected excess return of 0.078, and a standard deviation of 0.816. If these two assets have a coefficient of correlation of 0.23, what proportion of the money you invest in risky assets should you put in the bond? An answer of 0 means invest no money in the bond, an answer of 1 means put all of your money in the bond. Please give your answer to three decimal places.

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Answer #1

Portfolio invested in stock = (SD of Bond^2 - correlation * SD of stock * SD of bond) / (SD of stock ^ 2 + SD of bond^2 - 2 * correlation*SD of Stock * SD of Bond)

Portfolio invested in stock = (0.816^2 - 0.23 * 0.816 * 0.83) / (0.83^ 2 + 0.816^2 - 2 * 0.23*0.816* 0.83)

Portfolio invested in stock = 0.5101 / 1.043207

Portfolio invested in stock = 0.489

Portfolio invested in Bond = 1 - portfolio invested in stock = 1 - 0.489

Portfolio invested in Bond = 0.511

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