Question

Consider the following table: Scenario Severe recession Mild recession Normal growth Boom Stock Fund Bond Fund Probability Rate of Return Rate of Return 0.05 -40% -9% 0.25 -14% 15% 0.40 17% 0.30 -5% 33% a. Calculate the values of mean return and variance for the stock fund. (Do not round intermediate calculations. Round "Mean return" value to 1 decimal place and "Variance" to 2 decimal places.) Mean return Variance 11.2 % 8.43 %-Squared b. Calculate the value of the covariance between the stock and bond funds. (Negative value should be indicated by a minus sign. Do not round intermediate calculations. Round your answer to 2 decimal places.) Covariance %-Squared

Answer 1

a) Mean Return of the stock fund =0.05 *-40%+0.25*-14%+0.40*17%+0.3*33% =11.20%
Variance =0.05*(-40%-11.20%)^2 + 0.25*(-14%-11.20%)^2+ 0.40 *(17%-11.20%)^2+0.3*(33%-11.20%)^2=0.044586 or 4.4586% or 445.86%- squared

b.Mean return of bond =0.05*-9%+0.25*15%+0.40*8%+0.30*-5% =5%
Covariance
=0.05*(-40%-11.20%)*(-9%-5%)+0.25*(-14%-11.20%) *(15%-5%)+0.40*(17%-11.20%)* (8%-5%)+ 0.3*(33%-11.2%)*(-5%-5%) = -0.00856 or -0.856% or -85.60%-squared