The slope of the budget line, faced by an investor deciding what percentage of her portfolio to place in a risky asset, increases when the:
A) standard deviation of the portfolio gets smaller.
B) standard deviation of the risky asset gets larger.
C) rate of return on the risk-free asset gets larger.
D) rate of return on the risky asset gets larger.
E) rate of return on money gets larger.

Question

Quizplus · Accepted Answer

The slope of the budget line represents the trade-off between risk and expected return. A steeper slope means a higher expected return for a given level of risk. The only factor among the given choices that can affect the expected return of the risky asset is the rate of return on the risky asset. Therefore, when the rate of return on the risky asset gets larger, the slope of the budget line increases.

The Slope of the Budget Line, Faced by an Investor