Suppose that you are managing the financial portfolio of a large municipality and must allocate all your investment between a domestic and foreign mutual fund. Imagine that the returns of the two funds are similar, but independent. Namely, the likelihood of one going up or down is not affected by what the other one does. Return of the domestic fund is following normal distribution with the mean of 10% and a standard deviation of 10%, while foreign fund return is normally distributed with the mean of 20% and standard deviation of 25%.
Consider the following strategies:
1. Invest all in the domestic fund.
2. Invest all in the foreign fund.
3. Combine funds.
Comment on returns using the above strategies.
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