A2

Question 1

Efficient diversification

Answer 1

lowest risk level for a given return

Question 2

Hedge asset

Answer 2

adding assets with negative correlations to the portfolio (reduces s.d. w/o necessarily reducing E(r))

Question 3

Efficient diversification (corr = -1, corr = 1)

Answer 3

Optimal portfolio: sd=0

Optimal portfolio: 100% in asset w/ highest E(r)

Question 4

Markowitz portfolio selection components & definition

Answer 4

min-var frontier: portfolio lowest variance for E(r)
global min-var portfolio: single portfolio w/ lowest var
efficient frontier: portion of min-var frontier above global min-var portfolio

Question 5

Asset Allocation v. Security Selection

Answer 5

allocation of complete portfolio to various asset categories

within a category of assets, investors can select specific securities to try and increase return

Question 6

Risk pooling

Answer 6

merge several uncorrelated projects together; increases risk

Question 7

Risk sharing

Answer 7

share risk among several investors to benefit from higher sharp ratio from pooling, w/o increased exposure to risk