Discuss assumptions underlying the diversification theory, Corporate Finance

Assignment Help:

Question:

a) You have just been appointed a portfolio manager of Malou investment. An investor has two assets available from which to form his desired portfolio. Asset X has an expected return of 4% and standard deviation of 9%. Asset Y has an expected return of 8% and standard deviation of 12%.

i) Assume that the returns of the two assets are perfectly positively correlated. If the investor wishes to place portfolio weight 1/3 on asset X and weight 2/3 on asset Y compute the expected return and standard deviation of the portfolio.

ii) Assume now that the two asset returns are perfectly negatively correlated. If the investor places portfolio weight of α on asset X, write down an expression for the variance of the portfolio. Demonstrate that, in this scenario, the investor can form a portfolio with zero variance and find the appropriate weights associated with this portfolio

b) ‘If correlation among security returns were perfect-if returns of all securities moved up and down together in perfect unison, diversification could do nothing to eliminate risk. The fact that security returns are highly correlated, but not perfectly correlated, implies that diversification can reduce risk but not eliminate it' Markovitz(1981).

c) Discuss the assumptions underlying the diversification theory.


Related Discussions:- Discuss assumptions underlying the diversification theory

Renowned Cola, corporate finance, Financial Accounting Calculate the market...

corporate finance, Financial Accounting Calculate the market value of Renowned Cola''''s debt at year-end 2005. What is the book value of debt? Why do usually use market or book va

What is the value of the debt and the equity, A firm's assets have a market...

A firm's assets have a market value of $500m; the asset returns have a standard deviation of 25% per year.  The firm is financed with zero coupon debt having a face value of

WACC, The total book value of WTC’s equity is $40 million and book value pe...

The total book value of WTC’s equity is $40 million and book value per share outstanding is $12. The stock of WTC is currently selling for a price of $35 per share and the beta of

Wacc, The cost of capital for a firm can differ from the cost of capital fo...

The cost of capital for a firm can differ from the cost of capital for each of its businesses. When a firm has multiple businesses, it is important to use the cost of capital appro

Interpret the meaning of the dol, Company X produces tea kettles, which it ...

Company X produces tea kettles, which it sells for $12 each. Fixed costs are $650,000 for up to 400,000 units of output. Variable costs are $8 per kettle. a. What is the

A-note, A-Note is the highest tranche of an asset backed security or anothe...

A-Note is the highest tranche of an asset backed security or another structured financial product. An A-note is superior to other notes, like B-notes in bankruptcy or other credit

Project on corporate finance, develop a corporate finance project and diss...

develop a corporate finance project and dissices all ground of financials areas

INVESTMENT DECISION, You are a ceo of a sotware firm that has limited acces...

You are a ceo of a sotware firm that has limited access to debt equity markets. The average return on last year projects is 28 % . and cost of capital is 12%. would npv pr Irr be

Distinguish between natural hedging and cross-hedging, Question: (a) Is...

Question: (a) Is it feasible for a firm to hedge without using derivatives? (b) Distinguish between natural hedging, cross-hedging and direct hedging. (c) Mr Hedginglall

Write Your Message!

Captcha
Free Assignment Quote

Assured A++ Grade

Get guaranteed satisfaction & time on delivery in every assignment order you paid with us! We ensure premium quality solution document along with free turntin report!

All rights reserved! Copyrights ©2019-2020 ExpertsMind IT Educational Pvt Ltd