Investment and Portfolio Analysis Assignments
Question 1: Portfolio Construction for Mr. Hellers
Your boss has sent you another client of A.P. Investments, Mr. Hellers, who needs your help on making an investment decision. Mr. Hellers has identified two stocks, Port of Tauranga and A2 Milk Corporation, which he thinks will give him a good return on his investment. Both stocks are equally interesting to him, but he heard something about splitting eggs, or sharing risk or something like that. A.P. Investment's research department has provided you with some price information about the two specific stocks. Your boss has asked you to help Mr. Hellers in his investment decisions, by explaining to him the principle of "splitting eggs", and suggests that you do this by showing a risk-return graph for the two stocks and any portfolio that you can create from these two stocks (you can do this by constructing portfolios, by changing weights in 10% increments). Which portfolio would give Mr. Hellers the least amount of risk? Which portfolio has the highest reward-to-variability ratio? What would the optimal portfolio be? Your boss suggests you start by calculating the per annum returns and standard deviation and the correlation between the two companies
Question 2: Portfolio Diversification
Stocks offer an expected rate of return of 10% with a standard deviation of 20%, whereas gold offers an expected return of 5% with a standard deviation of 25%.
a) In light of the apparent inferiority of gold to stocks in terms of return and volatility, why would anyone want to hold gold? Illustrate it graphically.
b) What would be your answer to (a) if the correlation coefficient between stocks and gold was +1? Please draw a diagram to explain.