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CFA Level I · CFA Level I Exam · Portfolio Risk and Return: Part II

The risk-free rate is 3%. The tangency portfolio has an expected return of 11% and a standard deviation of 16%. An investor wants a total portfolio standard deviation of 12% using the risk-free asset and the tangency portfolio. The expected return of the investor's portfolio is closest to:

The expected return is about 9.0%. A 12% standard deviation requires 75% in the tangency portfolio (12/16) and 25% in the risk-free asset. The return is 0.25 × 3% plus 0.75 × 11%, which equals 9%.

  1. A8.0%
  2. B9.0%Correct
  3. C10.0%

Explanation

Weight in the tangency portfolio = 12/16 = 0.75. Expected return = 3% + 0.75 × (11% − 3%) = 3% + 6% = 9%. Check: 0.25×3% + 0.75×11% = 0.75% + 8.25% = 9%.

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