# Chapter 10 Diversification in Stocks Portfolios by jizhen1947

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```									Chapter 10 Diversification in Stocks Portfolios
Problem 12 prepare a 1 page report on your conclusions and illustrate with examples.

You are a risk-averse investor who is considering investing in one of two economies. The
expected return and volatility of all stocks in both economies is the same. In the first
economy, all stocks move together-in good times all prices rise together and in bad times
they all fall together. In the second economy, stock returns are independent-one stock
increasing in price has no effect on the prices of other stock. Which economy would you
choose to invest in? Explain.

Chapter 11 The Volatility of a Two-stock Portfolio(11.4) & Calculating the Beta of a

Problems 4 & 20

4. Using the data in the following table, estimate
a. the average return and volatility for each stock
b. the covariance between the stocks
c. the correlation between these two stocks

Realized
Returns
Year              Stock A Stock B
1998              -10% 21%
1999              20%     30%
2000              5%      7%
2001              -5%     -3%
2002              2%      -8%
2003              9%      25%

20. Kaui Surf Boards is seeking to raise capital from a large group of investors to expand
its operations. Suppose these investors currently hold the S&P 500 portfolio, which has a
volatility of 15% and an expected return of 10%. The investment is expected to have a
volatility of 30% and a 15% correlation with the S&P 500. If the risk-free interest rate is
4%, what is the appropriate cost of capital for Kaui Surf Boards’ expansion?

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