Question

Consider the following scenario analysis:

a. Is it reasonable to assume that Treasury bonds will provide higher returns in recessions than in booms? Yes No

b. Calculate the expected rate of return and standard deviation for each investment.

Answer 1

a. Yes, it is reasonable to assume that Treasury bonds will provide higher returns in recessions than in booms.

b.Expected rate of return in case of stock = ((-4%)*0.30) + (17%*0.50) + (28%*0.20)

= 12.9%

Expected rate of return in case of bonds = (16%*0.30) + (10%*0.50) + (9%*0.20)

= 11.6%

Standard Deviation for Stock = [((12.9%-(-4%))²*0.30) + ((12.9%-17%)²*0.50) + ((12.9%-28%)²*0.20)]^1/2

= 11.82%

Standard Deviation for Bond = [((11.6%-16%))²*0.30) + ((11.6%-10%)²*0.50) + ((11.6%-9%)²*0.20)]^1/2

= 2.91%

	Expected rate of return	Standard Deviation
Stocks	12.9%	11.82%
Bonds	11.6%	2.91%