Question

In the lectures notes and class materials, we have studied the concept of risk and return - so we know the fundamentals. To assume additional risk, investors will require the opportunity to receive additional return. Additionally, some investors by nature are more risk averse than others - this is what drives financial markets. Let's assume that you have just inherited an unexpected large sum of $100,000 for which you have no pressing financial demands and which you decided to invest for 10 years to revisit at that time. Discuss your investment opportunities and ultimate decision. Include the following in your response: • What categories of investments would you consider and why? • Would you be more inclined to invest in safe options (treasury notes and bonds, CDs) or more risky investments (stock and bond markets, real estate, gold, fine art, a race horse)? • Would diversification be part of your strategy and why/why not? • Describe the risk/reward profile of your investment. Be specific. • To what amount would you expect your 10 year investment to accumulate. Support your conclusion. Explain your reasoning and support it in theory. Remember, investment approaches and risk tolerances of investors vary, so there are no inherently "wrong" answers, there are many "right answers." Your post should be about two to three well developed paragraphs long.

Answer 1

I would consider large-cap equities, mid-cap equities and corporate bonds. This is because I have no pressing financial demands, and a relatively long time horizon of investment. Thus, I have a higher ability to take risk. I would be more inclined to invest in riskier investments such as these because I can earn a higher return over the investment period. I would be less inclined to invest in safe options because the expected return would be lower.

Yes, diversification would be a part of my strategy because I can reduce the volatility of my overall portfolio through diversification.

My investment would be split as below :

• 40% in large cap equities
• 20% in mid cap equities
• 40% in corporate bonds

The risk of this investment is above average, and the expected return is above average.

The historical annual return in large cap equities has been around 12%.

The historical annual return in mid cap equities has been around 15%.

The historical annual return in corporate bonds has been around 5%.

The expected annual return of my investment = (40% * 12%) + (20% * 15%) + (40% * 5%) = 9.8%

Future value = present value * (1 + rate of return)number of years

Future value = $100,000 * (1 + 9.8%)10

Future value = $254,697

I would expect my investment to accumulate to $254,697 after 10 years