Question

Mr. PELAGIE has a sum of €30,000. He decides to invest the entire amount in stocks from the LEONARD company. The risk-free rate is 5%, the expected profitability of this portfolio of securities is 12%, that of the market portfolio is 10%. The volatility of LEONARD stock is 30%. The volatility of the market security is 13%. What is the composition of the portfolio with the minimum volatility, but which offers the same profitability than that of the LEONARD share?

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Answer to a math question Mr. PELAGIE has a sum of €30,000. He decides to invest the entire amount in stocks from the LEONARD company. The risk-free rate is 5%, the expected profitability of this portfolio of securities is 12%, that of the market portfolio is 10%. The volatility of LEONARD stock is 30%. The volatility of the market security is 13%. What is the composition of the portfolio with the minimum volatility, but which offers the same profitability than that of the LEONARD share?

Expert avatar
Neal
4.5
71 Answers
Given the details provided, we want to find the composition of the portfolio with the same expected return as the LEONARD stock but with the minimum volatility.

Let:
- w_m be the proportion of the portfolio invested in the market portfolio,
- w_f = 1 - w_m be the proportion invested in the risk-free asset.

The expected return of the portfolio combining the risk-free asset and the market portfolio is:
r_p = w_f \cdot r_f + w_m \cdot r_m

Given r_p = r_L = 12\%, we can solve for w_m.

The portfolio volatility is a weighted average of the volatilities of the market and risk-free asset:
\sigma_p = w_m \cdot \sigma_m

Given the data:
- r_f = 5\%,
- r_L = 12\%,
- r_m = 10\%,
- \sigma_L = 30\%,
- \sigma_m = 13\%,

we can plug in the values and solve for w_m:
12\% = (1 - w_m) \cdot 5\% + w_m \cdot 10\%

Solving for w_m:
12\% = 5\% - 5\% \cdot w_m + 10\% \cdot w_m
12\% = 5\% + 5\% \cdot w_m
5\% \cdot w_m = 7\%
w_m = 1.4

\therefore The proportion of the portfolio invested in the market portfolio is approximately 140%.

\boxed{w_m = 1.4}

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