A highly risk-averse investor is considering adding one additional stock to a 3-stock portfolio,to form a 4-stock portfolio.The three stocks currently held all have b = 1.0,and they are perfectly positively correlated with the market.Potential new Stocks A and B both have expected returns of 15%,are in equilibrium,and are equally correlated with the market,with r = 0.75.However,Stock A's standard deviation of returns is 12% versus 8% for Stock B.Which stock should this investor add to his or her portfolio,or does the choice not matter?
A) Either A or B,i.e. ,the investor should be indifferent between the two.
B) Stock A.
C) Stock B.
D) Neither A nor B,as neither has a return sufficient to compensate for risk.
E) Add A,since its beta must be lower.

Question

Quizplus · Accepted Answer

With only 4 stocks in the portfolio,unsystematic risk matters,and B has less.

A Highly Risk-Averse Investor Is Considering Adding One Additional Stock