Question

Suppose you hold a portfolio of two stocks in the healthcare industry. The future outcomes for these stocks depend mainly on the next healthcare bill to be passed by Congress. The possible outcomes and returns are: Outcome Probability Return for Stock A Return for Stock B 1=Republican Bill 0.8 12% -5% 2=Democratic Bill 0.2 3% 20% What is the expected return and a standard deviation of a portfolio that has 50% of its value in stock A and 50% in stock B?

Answer 1

The expected return and standard deviation of the portfolio is 5.1% and 3.2%.

What is the expected return?

The expected return of the portfolio is the weighted sum of the return of stock A and stock B.

Return of stock A = (0.8 x 12%) + (0.2 x 3%) = 10.20%

Return of stock B = (0.8 x -5%) + (0.2 x 20%) = 0

Weighed sum = 0.5 x 10.20% = 5.1%

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