Gino Zarabia
Fin 534
Week 6 assignment
Chapter 10
Problem 20
Professor : Anthony Critiny

20. Consider the following two, completely separate, economies. The expected return and volatility of all stocks in both economies is the same. In the first economy, all stocks move together - in good time as all prices rise together and in bad times they all fall together. In the second economy, stock returns are independent - one stock increasing in price has no effect on the prices of other stocks. Assuming you are a risk-averse and you could choose one of the two economies in which to invest, which one would you choose? Explain. Prepare a brief report on your conclusions and illustrate with examples.
Answer:
I would opt for second economy, as in that economy I will have a ease of diversification which will help in mitigating risk. To design the investment portfolio of it is important to analyze different aspects which are the time for which the funds are being committed for the future needs, the expected rate of inflation and the expected payment that is likely to receive in the future.
It is important to diversify your portfolio, so it is advised to focus on investing in different assets as it helps in mitigating risk and giving us adequate returns. Investing in the second economy will help in diversification, distributing the wealth among different countries and classes which will help in providing the best returns by strongly focusing on the attributes and characteristics of the asset and the returns that are likely to be earned from the same.
Example:
Investing in different moderate to high risk investments with a strong focus on investment in equity which will include foreign as well as domestic equity exposure which will range approximately 60 to 70 percent of the total portfolio along with 30 to 40 percent of investment in bonds and short term investments