Chapter 4: Homework

4. Hilltop Coffee manufactures a coffee product by blending three types of coffee beans.
The cost per pound and the available pounds of each beam are as follows.
Bean Cost per Pound Available Pounds
1 $0.50 500
2 $0.0 !00
" $0.#5 #00
Consumer tests with coffee products were used to provide ratings on a scale of 0 $ 100%
with higher ratings indicating higher &uality. 'roduct &uality standards for the blended
coffee re&uire a consumer rating for aroma to be at least 5 and a consumer rating for
taste to be at least (0. The individual ratings of the aroma and test for coffee made from
100) of each bean are as follows.
Bean Aroma Rating Taste Rating
1 5 (!
2 (5 ((
" !0 5
*ssume that the aroma and taste attributes of the coffee blend will be a weighted average
of the attributes of the beans used in the blend.
a+ ,hat is the minimum-cost blend that will meet the &uality standards and provide
1000 pounds of the blended coffee product.
b+ ,hat is the cost per pound for the coffee blend.
c+ /etermine the aroma and taste ratings for the coffee blend
d+ 0f additional coffee were to be produced% what would be the e1pected cost per
pound.
1. *n investment advisor at 2hore 3inancial 2ervices wants to develop a model that can
be used to allocate investment funds among four alternatives4 stoc5s% bonds% mutual
funds% and cash. 3or the coming investment period% the company developed estimates of
the annual rate of return and the associated ris5 for each alternative. 6is5 is measured
using an inde1 between 0 and 1% with higher ris5 values denoting more volatility and thus
more uncertainty.
!nvestment Annual Rate o" Return
#$%
Risk
2toc5s 10 0.(
7onds " 0.2
8utual 3unds # 0."
Cash 1 0.0
1
7ecause cash is held in a money mar5et fund% the annual return is lower% but it carries
essentially no ris5. The ob9ective is to determine the portion of funds allocated to each
investment alternative in order to ma1imi:e the total annual return for the portfolio
sub9ect to the ris5 level the client is willing to tolerate.
Total ris5 is the sum of the ris5 for all investment alternatives. 3or instance% if #0) of a
client;s funds are invested in stoc5s% "0) in bonds% 20) in mutual funds% and 10) in
cash% the total ris5 for the portfolio would be 0.#0<0.(+ = 0."0<0.2+ = 0.20<0."+ = 0.10<0.0+
> 0.##. *n investment advisor will meet with each client to discuss the client;s
investment ob9ectives and to determine a ma1imum total ris5 value for the client. *
ma1imum total ris5 value of less than 0." would be assigned to a conservative investor? a
ma1imum total ris5 value of between 0." and 0.5 would be assigned to a moderate
tolerance to ris5? and a ma1imum total ris5 value greater than 0.5 would be assigned to a
more aggressive investor.
2hore 3inancial 2ervices specified additional guidelines that must be applied to all
clients. The guidelines are as follows4
@o more than 5) of the total investment may be in stoc5s
The amount invested in mutual funds must be at least as much as invested in bonds.
The amount of cash must be at least 10)% but no more than "0) of the total investment
funds.
a+ 2uppose the ma1imum ris5 value for a particular client is 0.#. ,hat is the optimal
allocation of investment funds among stoc5s% bonds% mutual funds% and cash.
,hat is the annual rate of return and the total ris5 for the optimal portfolio.
b+ 2uppose the ma1imum ris5 value for a more conservative client is 0.1(. ,hat is
the optimal allocation of investment funds for this client. ,hat is the annual rate
of return and the total ris5 for the optimal portfolio.
c+ *nother more aggressive client has a ma1imum ris5 value of 0.. ,hat is the
optimal allocation of investment funds for this client. ,hat is the annual rate of
return and the total ris5 for the optimal portfolio.
d+ 6efer to the solution for the more aggressive client in part c+. ,ould this client be
interested in having the investment advisor increase the ma1imum percentage
allowed in stoc5s or decrease the re&uirement that the amount of cash must be at
least 10) of the funds invested. A1plain.
e+ ,hat is the advantage of defining the decision variables as is done in this model
rather than stating the amount to be invested and e1pressing the decision variables
directly in dollar amounts.
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