Here are some characteristics of two securities:
Security 1 E(R1) = .10 SD2/1 = 0.0025
Security 2 E(R2) = .16 SD2/2 = 0.0064
a) Suppose the investor can only hold a single stock.
i) Which security should she choose if she wants to maximize expected returns?
ii) Which security should she choose if she wants to minimize risk?
b) Now assume that short sales are not allowed. (What does this mean for portfolio weights?) Suppose the correlation of returns on the two securities is +1.0, what is the optimal combination of securities 1 and 2 that should be held by the investor whose objective is to minimize risk?
c) Suppose the correlation of returns is -1.0, what fraction of the investor's net worth should be held in security 1 and in security 2 in order to produce a zero risk portfolio?
d) What is the expected return of the portfolio in C? How does this compare with the riskless return on Treasury Bills of 10%? Would the investor want to invest in Treasury Bills?