Question

You are going to invest all of your funds in one of three projects with the following distribution of possible returns: PROJECT 1 Standard Return Deviation 30% 4% Probability 50% Chance 50% Chance Beta PROJECT 2 Standard Return Deviation 9% 10.5% -20% Beta 0.8 Probability 30% Chance 40% Chance 30% Chance 36% Beta Probability 10% Chance 70% Chance 20% Chance PROJECT 3 Standard Return Deviation 28% 12% 18% -8% If you are a risk averse investor, which one should you choose? Explain why.

Answer 1

The coefficient of variation lower the better. As from the below calculation, Project 1 has the lowest coefficient of variation & hence it must be selected.

Project 1- SHOULD BE CHOOSED.

Project 1: Expected Return E(R), = 0.5 x 30 + 0.54-4 137 Standard deviation = 9%. Cooppient of waulatino (cv) Too 0.6923 13 E(R), Project 2 - E(R)2 = 0.3x36 + 0.4x 10.5+ 0-3X-20 = CV2 = 7 9). a.). 9 = 1 Project 3: E (R)₂ = 0.1 x 28 + 0.7 x 18+ 0.2x - 8 - 13.8% T3 - 129. CU₂ = 12 = 0.8695 13-8