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

question 146

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 as to which of 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:

Protective Reflex

An automatic response or action that the body initiates in response to a potentially harmful stimulus to prevent injury.

Transduction

The process by which foreign DNA is introduced into a cell by a virus or viral vector.

Hot Pan

An item of cookware that is significantly heated, often used for frying, searing, or cooking food.

Subjective

Based on or influenced by personal feelings, tastes, or opinions rather than external facts.