Question

You are a financial consultant who specializes in creating portfolios based on historical events in particular occurrences of recessions, economic expansions, and what is defined as an normal or average economy. Since 1945 the U.S. has experienced 12 economic expansions and 12 recessions. Your clients have asked to forecast expected return and volatility of a portfolio with allocations of 60% in stocks and 40% in bonds.

Scenario Stocks Bonds

Recession -5% +14%

Average +15% +8%

Expansion +25% +4%

a. What is the rate of return on the portfolio in each scenario? b. What is the expected rate of return and standard deviation of the portfolio? c. Would you prefer to invest in the portfolio, in stocks only, or in bonds only?

Answer 1

Ans:-

The expected return of the portfolio is 31.40%. The Standard deviation of the portfolio is 7.16%.

(c) As a risk-averse investor, I would like to have a stable return with minimum risk, therefore, I would invest in bonds only because it has the minimum risk (5.03%) with a fair return of 26%.