A Highly Risk-Averse Investor Is Considering Adding One Additional Stock

question 80

Multiple Choice

A highly risk-averse investor is considering adding one additional stock to a three-stock portfolio, to form a four-stock portfolio. The three stocks currently held all have b = 1.0 and a perfect positive correlation with the market. Potential new Stocks A and B both have expected returns of 15%, and both are equally correlated with the market, with r = 0.75. However, Stock A's standard deviation of returns is 12% versus 8% for Stock B. Which stock should this investor add to his or her portfolio, or does the choice matter?

• A) either A or B, i.e., the investor should be indifferent between the two.
• B) Stock A.
• C) Stock B.
• D) neither A nor B, as neither has a return sufficient to compensate for risk.

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Definitions:

Compile

The process of converting source code written in a high-level programming language into executable machine code or another intermediate form.

==

An equality operator used in programming languages to compare two values, returning true if equal and false otherwise.

Nested If

A conditional statement within another conditional statement, allowing for more complex decision-making paths.

If-Else

A conditional statement in programming that executes a block of code if a specified condition is true, and another block if the condition is false.