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Question
You are going to add one of the following three projects to your already well-diversified portfolio.PROJECT 1 PROJECT 2
| Probability | Return | Standard Deviation | Beta | Probability | Return | Standard Deviation | Beta | |
| 50% Chance | 22% | 12% | 1.1 | 30% Chance | 36% | 19.5% | 0.8 | |
| 50% Chance | -4% | 40% Chance | 10.5% | |||||
| 30% Chance | -20% |
PROJECT 3
| Probability | Return | Standard Deviation | Beta |
| 10% Chance | 28% | 12% | 2.0 |
| 70% Chance | 18% | ||
| 20% Chance | -8% |
Assume the risk-free rate of return is 2% and the market risk premium is 8%. If you are a risk averse investor, which project should you choose?
A) Project 1
B) Project 2
C) Project 3
D) Either Project 2 or Project 3 because the higher expected return on project 3 offsets its higher risk
Answer
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