1) The investor with the coefficient of risk aversion of 2.5 is designing the risky portfolio based on 2 stocks, P and M. Stock P has the expected rate of return of 18% and standard deviation of return of 30%. Stock M has the expected rate of return of 14% and standard deviation of return of 5%. Correlation coefficient between 2 stocks is= 0.5. Risk-free rate is= 5%. Explain optimal risky portfolio for this investor, that is, illustrate the weights of stocks, expected return, standard deviation of return, and maximum utility on this optimal risky portfolio.
2) Describe and compare hedging transaction exposure by using forward contract vs. money market instrument. When do option hedging approaches produce same result?
3) Assume that your company has the equity position in French firm. Explain the condition under which dollar/euro exchange rate uncertainty doesn’t constitute exchange exposure for your company.