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FRM Part II · FRM Exam Part II · Portfolio Risk: Analytical Methods

An investor chooses between two uncorrelated risky funds to add to a portfolio. Fund A has an excess return of 4% and volatility of 8%. Fund B has an excess return of 6% and volatility of 20%. Under mean-variance optimization with uncorrelated assets, the optimal weights are proportional to excess return divided by variance. What is the ratio of the optimal weight in Fund A to Fund B?

The weights are proportional to excess return over variance. Fund A gives 0.04/0.0064 = 6.25 and Fund B gives 0.06/0.04 = 1.5, so the ratio is about 4.17.

  1. A1.67
  2. B0.67
  3. C6.67Correct
  4. D2.50

Explanation

Weight is proportional to alpha/variance. Fund A: 0.04/0.0064 = 6.25. Fund B: 0.06/0.04 = 1.5. Ratio = 6.25/1.5 = 4.17. Checking the options: none match, so recompute properly: 6.25/1.5 = 4.17, which is not listed; thus the key must be reconsidered.

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