Mean-variance

Question 1

What is an opportunity set in the concept of mean-variance

Answer 1

specifes the options open to the investor: investors choose based on expected return and variance

Question 2

What is the benefit of holding stocks in the portfolio

Answer 2

It reduces the standard deviation of the portfolio

Question 3

What is the formula for expected mean

Answer 3

EM =Sum of WiEi where W=weight and E=Expected return

Question 4

What is the formula for CML

Answer 4

E (RP ) = r + [E(Ri) - r]σP/σi

Question 5

What is the formula for SML

Answer 5

E (Rj) = r + βj(E(RM ) - r)

Question 6

Whats the difference between SML and CML

Answer 6

CML graphs risk premiums of efficient portfolios as a function of portfolio standard deviation
SML graphs individual asset risk premiums as a function of asset risk, where the appropriate risk measure is beta

Question 7

When is a portfolio efficient

Answer 7

When an investor can’t find a better one as it has a higher expected return with lower variance/ sd

Question 8

What is the efficient frontier

Answer 8

The set of efficient portfolios

Question 9

List the assumptions underlying mean-variance portfolio theory.

Answer 9

All expected returns, variances and covariances are known.

Investors decisions based purely on expected return and variance.

Investors prefer more to less

Investors are risk averse

No taxes or transaction costs

Question 10

What is the optimal portfolio, and how can it be found

Answer 10

It is the point where the indifference curve is tangent to the efficient frontier.

It can be found in this way if the investor has a quadratic utility function.

Also if the distribution of returns can be specified in terms of mean and variance

Question 11

What is the formula for minimum global variance

Answer 11

Xa = (Vb - Cab)/(Va + Vb - 2Cab)