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Exercise 1.1.

Worksheet for Data on Net Profit Ratios

Year x (x- x ) (x-x )2 x2
1 5.6 1.778 3.16 31.36
2 2.7 -1.122 1.26 7.29

3 7.3 3.478 12.10 53.29

4 3.5 -.322 .103 12.25
5 .01 -3.812 14.53 .00

∑ 19.11 0 31.153 104.19

x = 19.11 / 5 = 3.822
s 2 = 31.153 / 4 = 7.79
s = 7.79 = 2.79
CV x = s / x = 0.73

1 n 2 2 104.19 − 5(3.822) 2
! s =
2
∑ xi − n x  =
n − 1  i =1 4
= 7.79
Exercise 1.2.

Rate of Return
GM Ford

x 0.82 0.96
s2 0.333 0.392
s 0.111 0.154
CVx 0.406 0.408
Solution to Exercise 1.4.
i yi xi xi2 xiyi y i2
1 25 5 25 125 625
2 30 6 36 180 900
3 35 9 81 315 1225
4 45 12 144 540 2025
5 65 18 324 1170 4225
∑ 200 50 610 2330 9000
∑/n 40 10 122 466 1800

y  40, x  10
1 n 2
V ( X )   xi  x 2  22
n i 1
1 n
Cov ( X , Y )   xi yi  x y  66
n i 1
Cov ( X , Y )
a 3
V ( x)
b  y  ax  10
Solution to Exercise 1.5.

Var(X) = 122 -102 =22

Var(Y) = 1800 – 402 =200
r2 = 662/(22 x 200) =0.99
r = 0.995
Solution for Case 1.1

1) * Conditional means of X

Center of classes 5.00 15.00 25.00 35.00 45.00 55.00

∑ by column 3.00 28.00 23.00 30.00 15.00 1.00
Conditional 27.50 23.21 14.89 6.00 3.17 2.50
means

Marginal mean of X: mx =13.05,

Marginal variance of X: σx2 =76.95 ⇒ σx=8.77
Variance of conditional means of X σx2(e) =66.65
Mean of conditional variance of X σx2(r) =10.30
* Conditional means of Y

2.50 26.00 40.77 32.10

7.50 18.00 35.56 16.36
12.50 14.00 26.43 26.53
17.50 17.00 22.06 20.76
22.50 11.00 15.00 0
27.50 14.00 12.857 16.84

Marginal mean of Y: my =27.90,

Marginal variance of Y: σy2 =130.59 ⇒ σy=11.43
σy2(e) =109.70 σy2(r) =20.89
Correlation ratio of Y w.r.t. X
η y2:x = 0.84

Correlation ratio of X w.r.t. Y:

η x2:y = 0.86

Cov(X,Y) = -91.095
Coefficient of linear correlation r =-0.909
Regression line of Y w.r.t. X
y = -1.184x +43.35
Exercise 1.6

4!
P ( X = 3) = C 43 (.4) 3 (.6) = (.0384) = 0.1536
(4 − 1)!1!
Exercise 1.7. Probability Density Function for B(5,0.2)
k (number of sales) P(X=k)
0 .3277
1 .4096
2 .2048
3 .0512
4 .0064
5 .0003

So P(X≥2) = P(X=2) + P(X=3) +P(X=4) + P(X=5)

= 1-[P(X=0) + P(X=1)] = 1- .3277 - .4096
= 0.2627
P(X≤3) = 1 - [P(X=4) + P(X=5)] = 0.9933

! Cumulative probability distribution P(X ≤ x)

Exercise 1.8. Poisson probability distribution P(5) of customer arrivals per
30 -minute period
k P(X=k)
0 0.0067
1 0.0337
2 0.0842
3 0.1404
4 0.1755
5 0.1755
6 0.1462
7 0.1044
8 0.0653
9 0.0363
0.9682
10 or more 0.0318 = 1- 0.9682

(Table)
Exercise 1.9. 1)
Time period xi yi (xi-µX) (yi-µY) (xi-µX)2 (yi-µY)2 (xi-µX)/ (yi-µY)

Total .25 -.05 0 0 .0250 .032 -.015

µX = .25 5 = .05; µY = −.05 5 = −.01;
σ X2 = 0.25 4 = .00625; σY2 = .032 4 = .008 ;
σ X ,Y = −.015 / 4 = −.00375;
−.00375
ρX ,Y = = −.5303
(.00625)(.008)

2) E(Rp) =(.6)(.05) + (.4)(-.01) =.026

Var(Rp) = (.6)2(.00625) +(.4)2(.008) +2(.6)(-.00375)
= .00173

Exercise 1.10. Treasury management
1) p: probability of “payment on Apr 1st”
Expected gain
Gp = -C0 + p(r/12)S + 3(1-p)(r/12)S = -C0 + (r/12)S(3-2p)
= -600[(.01)(400000(3-2p) = 600 – 800p
→ pl = .75

∀ p → Gp ≥ -C0 + (r/12)S[3 – (2)(1)] = -600 + (.01)S

→ S ≥ 60,000: always interest to place.

2) “Make the placement now”: Gp = 600 – 800p

“Wait until March 31st”:
Ga = p max {-C0; 0} + (1-p) max {2(r/12)S – C0; 0}
= (1-p) max {800-600; 0} = 200(1-p)

So Gp = Ga for p* = 2/3 (break-even point)

Exercise 1.13: Portfolio theory

• E(RP) = Σ αiRi = 0.1×6 + 0.4×8 + 0.5×12 = 9.8%

Var(RP) = σP2 = Σ ΣαiαjCov(Ri,Rj) = 0.12×32 + 0.42×52 + 0.52×182 +
2×0.1×0.4×0.7×3×5 + 2×0.4×0.5×(-0.3)×5×18 + 2×0.1×0.5×0.2×3×18
= 76.21 (%)2
So the volatility σP = 76.211/2 = 8.73%

f) An efficient portfolio is a portfolio that is located on the efficient

frontier. The efficient frontier of the result of the combination of a
given set of securities where we only select the most relevant
portfolios. In this context we will choose our optimal portfolio so that
it:
- offers a minimum risk for a given level of expected return, or
- offers a maximum of expected return for a given level of risk.
• Let choose a combination of 2 funds with a negative correlation
coefficient: B & C. To keep a return of 9% we have 9 = αb×8 +
αc×12. But αc+ αc = 1, so 9 = αb×8 + (1-αb)×12 that implies αb = 0.75
and = 0.25.
Exercise 1.13: Portfolio theory (Cont.)
σP2 = Σ ΣαiαjCov(Ri,Rj) = 0.752×52 + 0.252×182 + 2×0.75×0.25
(-0.3)×5×18
= 24.188 (%)2
So the volatility σP = (24.188)1/2 = 4.918%