Question

Ethan owns a two-stock portfolio that invests in Blue Llama Mining Company (BLM) and Hungry Whale Electronics (HWE). Three-quarters of Ethan's portfolio value consists of BLM's shares, and the balance consists of HWE's shares. Each stock's expected return for the next year will depend on forecasted market conditions. THe expected returns from the stocks in different market conditions are detailed:

Market Condition	Probability of Occurence	Blue Llama Mining	Hungry Whale Electro
Strong	50%	10%	14%
Normal	25%	6%	8%
Weak	25%	-8%	-10%

Calculate expected returns for the individual stocks in Ethan's portfolio as well as the expected rate of return of the entire portfolio over the 3 possible market conditions.

1. The expected rate of return on BLM stock over next year is: a. 6.08% b. 5.40% c. 3.83% d. 4.50%

2. The expected rate of return on HWE stock over next year is: a. 7.35% b. 8.06% c. 6.50% d. 4.23%

3. The expected rate of return on Ethan's portfolio over next year is: a. 6.75% b. 5.00% c. 4.25% d. 6.00%

Answer 1

Scenario	Probability	Blue Llama Mining	Retrun* Probability		Hungry Whale Electro	Retrun* Probability
Strong	50%	10%	5.000%		14%	7.000%
Normal	25%	6%	1.500%		8%	2.000%
Week	25%	-8%	-2.000%		-10%	-2.500%
		Expected return	4.500%		Expected return	6.500%
	Expected return	Weight	Return
Blue Llama Mining	4.500%	75%	3.375%
Hungry Whale Electro	6.500%	25%	1.625%
		Expected return	5.000%
Solution 1	4.500%
Solution 2	6.500%
Solution 3	5.000%