Hi there, This Q asks us to prove the efficient frontier passes through some point where we are given 2 risky assets and a risk-free asset. The solution uses part (ii) where we found the portfolio that maximises (E(Rp)-5%)/σ(Rp) (this part ignores the risk-free asset) Now we know the efficient frontier is meant to be tangential to the eff frontier for risky assets at the market portfolio but as far as I can see that is not the portfolio that we solved for in (ii). It's difficult to say though because the quantity in (ii) is not the 'standard' "find the minimum variance portfolio" question so might somehow be related to the market portfolio.. can anyone help? Obrigado! btw Q8(v) in this paper is one of the most hectic q's I've come across in a CT8 paper, I think they hand out some kind of award to people who can answer this in an exam
CT8 Sept 2006 Q6(iii) I don't want to give the game away completely yet, but here's a clue: "Look at the equation for the Capital Market Line in CAPM theory and compare it to the quantity you maximised in Part (ii)." Hope that helps Mike
Actually, I'm still trying to understand how to arrive at the answer to (i) i.e. showing that efficient frontier passes through (0.1,0.075). I've looked at the examiner's report and still not too clear. Help!
Thanks Mike, The quantity in part (ii) is in fact equivalent to the market price of risk, which is in turn based on the market portf, although it's an unusual way to derive it. Newbie, the report gives a geometric argument which is again not the usual way of answering this type of Q. You can get to the same answer by writing down the expressions for the portf Ep and Vp (which simplifies considerably when a risk-free asset is involved), then rearranging to express σ(Rp) as a linear function of Ep and substituting in the given values. May the force be with you in tomorrow's paper!
Hello everyone there... Looking up the answers, I was wondering whether someone could enlighten me regarding how was the slope of the line derived in the solutions (0.2692)... Obviously there is something that i don't follow there....
The efficient frontier joins the RFA at (0, 0.05) and the portfolio from part (ii), which is at (x, y), say. Then the gradient is "height/length" for the triangle formed by these points, which equals (y-0.05)/(x-0). This gives the 0.2692
