1. You have selected four securities for a portfolio, and find their returns are all positively correlated. How would you construct a diversified portfolio from these securities?
2. Which of the following statistics cannot be negative? Why?
covariance
variance
E(r)
correlation coefficient
3. Suppose you have determined the efficient frontier based on your analysis of a portfolio of securities, your investment opportunity set. If you add additional risky assets into the analysis, increasing the number of assets in your investment opportunity set, what effect will this have on the shape of the efficient frontier?
4. Suppose you want to do your financial analysis in real as opposted to nominal terms. What would you use for a risk-free asset?
4a. Which of the following is the best measure of the market risk premium:
the difference between the return on an index fund and the return on Treasury bills
the difference between the return on a small-stock mutual fund and the S&P 500 index
the difference between the return on risky assets with the lowest returns and the return on Treasury bills
the difference between the highest and lowest yielding assets.
Why?