# Answers: Risk Aversion and Security

Your assistant, Thomas, is briefing you on the current portfolio and states “We have too much of our portfolio in Alpha. We should probably move some of those funds into Gamma so we can achieve better diversification. ” Is he right? Hint: Feel free to use spreadsheet statistical functions. ] Here is the data on all three stocks. Assume, for convenience, that all three securities do not pay dividends.

Alpha, Current Price 40; Current Weight 80%; Next Year’s Price: Expansion 48, Normal 44, Recession 36; Beta, Current Price 27. 0; Current Weight 20%; Next Year’s Price: Expansion 27. 50, Normal 26, Recession 25; Gamma, Current Price 15; Current Weight 0%; Next Year’s Price: Expansion 16. 50, Normal 19. 50, Recession 12. It depends. No. Yes. Answer : Yes Question 10 (15 points) Suppose there are two mortgage bankers. Banker 1 has two \$1,000,000 mortgages to sell. The borrowers live on opposite sides of the country and face an independent probability of default of 5%, with the banker able to salvage 40% of the mortgage value in case of default.

Banker 2 also has two \$1,000,000 mortgages to sell, but Banker g’s borrowers live on the same street, have the same Job security and income. Put differently, the fates and thus solvency of Banker g’s borrowers move in lock step. They have a probability of defaulting of 5%, with the banker able to salvage 40% of the mortgage value in case of default. Both Bankers plan to sell their exceptive mortgages as a bundle in a mortgage-backed security (MBPS) (I. E. , as a portfolio). Which of the following is correct?

Banker g’s MBPS has a higher expected return and more risk. Banker Xi’s MBPS has a higher expected return and less risk. Banker Xi’s MBPS has a higher expected return and more risk. Banker g’s MBPS has more risk, but the expected returns on both MBPS are the same. Banker Xi’s MBPS has more risk, but the expected returns on both MBPS are the same. Banker g’s MBPS has a higher expected return and less risk. The same. In accordance with the Coursers Honor Code, I (Oddity Vats) certify that the answers here are my own work.

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