Table 5.11 shows data on the returns over five 1-year periods for six mutual funds. A firm's portfolio managers will assume that one of these scenarios will accurately reflect the investing climate over the next 12 months. The probabilities of each of the scenarios occurring are 0.1, 0.3, 0.1, 0.1, and 0.4 for years 1 to 5, respectively.
a. Develop a portfolio model for investors who are willing to risk a portfolio with a return no lower than 2%.
b. Solve the model in part (a) and recommend a portfolio allocation for the investor with this risk tolerance.
c. Modify the portfolio model in part (a) and solve it to develop a portfolio for an investor with a risk tolerance of 0%.
d. Is the expected return higher for investors following the portfolio recommendations in part (c) as compared to the returns for the portfolio in part (b)? If so, do you believe the returns are enough higher to justify investing in that portfolio?
Text Book: An Introduction to Management Science: Quantitative Approaches to Decision. By David Anderson, Dennis Sweeney, Thomas Williams, Jeffrey Camm, James Cochran.