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CMA Final · Strategic Financial Management · Portfolio Theory and Practice

An investor holds three securities in a portfolio with weights and expected returns as follows: Security P (40%, 12%), Security Q (35%, 15%) and Security R (25%, 10%). What is the expected return of the portfolio?

The expected return of a portfolio is the weighted average of the individual expected returns. Here 0.40×12 + 0.35×15 + 0.25×10 gives 12.55%. A simple average of 12.33% is wrong because it ignores the different amounts invested in each security.

  1. A12.33%
  2. B12.55%Correct
  3. C13.00%
  4. D11.80%

Explanation

Portfolio return is the weighted average: 0.40×12 + 0.35×15 + 0.25×10 = 4.80 + 5.25 + 2.50 = 12.55%. The 12.33% option is the simple average of the three returns, which ignores the weights.

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