Answer:
The portfolio's expected return is 12% and the standard deviation of the portfolio is 15.65%.
Explanation:
The expected rate of return of the portfolio is the weighted average of the individual stock returns that form up the portfolio. The formula for a two stock portfolio return is,
Portfolio return = wA * rA + wB * rB
Where,
- w represents weight of the stocks in the portfolio
- r represents the return of the stocks in the portfolio
Portfolio return = 0.7 * 0.15 + 0.3 * 0.05 = 0.12 or 12%
The portfolio which consists of a risky and a risk free asset has a standard deviation equal to the weight of the risky asset multiplied by its standard deviation. The risk free asset has no standard deviation. Thus, the formula for a portfolio standard deviation for such a portfolio is,
Standard deviation = weight of risky asset * standard deviation of risky asset
Standard deviation of portfolio = 0.7 * √0.05
Where standard deviation is the square root of variance.
Standard deviation of portfolio = 0.1565 or 15.65%
