CFA_L1_Assignment_141_Lesson 2: Risk Aversion, Portfolio Selection and Portfolio Risk
If the correlation coefficient equals zero, the second part of the formula will equal _______ and portfolio standard deviation will lie somewhere in between...
1. zero 2. -1? and +1?
utility is a measure of the...
relative satisfaction an investor gets from a particular portfolio
When correlation equals +1, the risk-return combinations that result from altering the weights lie along a ...
straight line between the two assets' risk-return profiles.
in the utility function, A is higher for investors who are more ...
risk averse as they require larger compensation for accepting more risk.
"A" is a measure of ...
risk aversion
The return earned on the risk-free asset is the...
risk-free rate (RFR).
the higher the A, the lower the dam U (utility) which means that
the E(R) must be higher to compensate for the high "A" which is a measure of an individuals risk aversion
Capital Allocation line shows?
what happens when u invest only in the RFR or the E(R_i)..
risk aversion is...
when investors are scared of too much risk and aim to maximize returns for a given level of risk and minimize risk for a given level of return
are they bowed out?
yes
The expected return on a risk-free asset is entirely certain and therefore the standard deviation of its expected returns is ...
zero (σRFR = 0)
Portfolio standard deviation will be minimized when the correlation coefficient equals....
−1
We can draw the following conclusions from the utility function:
- Utility is unbounded on both sides—it can be highly negative or highly positive. - Higher return results in higher utility. - Higher risk results in lower utility. - The higher the value of "A," the higher the negative effect of risk on utility.
NEED to add way more, bruh
****
The maximum value for portfolio standard deviation will be obtained when the correlation coefficient equals ...
+1.
risk seeking person has a _______ A - risk averse person has a ________ A - risk neutral person has a dam __________ A
- negative A - positive A - ZERO A
Two points relating to indifference curves for risk-averse investors are worth noting:
1. They are upward sloping. This means that an investor will be indifferent between two investments with different expected returns only if the investment with the lower expected return entails a lower level of risk as well. 2. They are curved, and their slope becomes steeper as more risk is taken. The increase in return required for every unit of additional risk increases at an increasing rate because of the diminishing marginal utility of wealth.
The risk aversion coefficient (in the utility function) and the slope of the indifference curve are ____________ related.
1. positively
When correlation equals −1, the curve is represented by two straight lines that meet at the vertical axis. This point represents a zero-risk portfolio where portfolio return must equal the ___________ to prevent arbitrage.
1. risk-free rate
T/F The risk-free asset, can have any variance (risk)
F - will always be ZERO for risk free assets
T/F The covariance among the assets in the portfolio accounts for the none of portfolio risk.
F The covariance among the assets in the portfolio accounts for the BULK of portfolio risk.
the CAL has an intercept of
RFR
T/F As more and more assets are added to a portfolio, the contribution of each individual asset's risk to portfolio risk diminishes.
T
T/F? Utility cannot be compared across individuals because it is a personal concept. Consequently, it cannot be summed among individuals to determine utility from the societal standpoint.
T
T/F a risk free asset generates the same utility for all types of investors.
T always u mufuk
and the CAL has a constant slope of...
[(R_i - RFR) / std dev of i] ... also noted in the image
give an example of utility
a risk-averse investor gets more utility from a damn portfolio with definite returns compared to one with an uncertain outcome
the final E(R_P) equation we have gone over thus far : E(Rp)=RFR+σport ([E(Ri)−RFR]/σi) , relates the return on a portfolio composed of the risk-free asset and a risky asset to the standard deviation of the portfolio is known as the...
capital allocation line (CAL)
Notice that for any mix of asset weights, the maximum value that the portfolio standard deviation can take is equal to the ...
higher of the individual assets' standard deviations.
this means that, the higher "A" is, the _____________ the indifference curve
higher or steeper
As correlation falls, the curvature of this line ...
increases.
The risk-return tradeoff that an investor is willing to bear can be illustrated by an...
indifference curve
The next question is which of these numerous portfolios that lie along the CAL will actually be chosen by the investor? The answer lies in combining ...
indifference curves with the CAL
what does bowed out entail?
the growth of one variable increases in proportion to the growth of another variable that it depends on
Portfolios that lie below the CAL may be invested in, but then...
the investor would not be maximizing the potential return given the level of risk she is willing to take.
indifference curves represent..
the investors utility function
when u have an indifference curve...
the level of return is measured for each indifference curve and compared to the y and x axis for expected return and level of variance.. this is in my own words so its confusing
compare standard deviation between two assets with Correlation of -.5 and another 2 assets with correlation coefficient of 0
the one with 0 will have a lower standard deviation
while the CAL represents...
the risk-return combinations of the set of portfolios that the investor can invest in
w_i = ?
the weight of risky asset in the portfolio
how do risk and risk free combinations show up on the CAL?
they are beyond the dam square showing a zero value of one another...