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Portfolio ManagementModule 1 of 3

Portfolio Risk and Return: Part I

6

Concepts

4

Formulas

1

Decisions

3

Quiz Questions

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Key Concepts

6 concepts covered in this module.

Risk-Return Tradeoff

Higher expected return requires accepting higher risk. Historical data: stocks > bonds > T-bills in return and risk.

Utility Theory

U = E(R) - ½Aσ². Risk-averse investors (A>0) require compensation for bearing risk. Indifference curves slope upward.

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Formulas

4 essential formulas for this module.

Utility Function

U = E(R) - ½ × A × σ²

Where: A = risk aversion coefficient (A>0 for risk-averse)

CAL Equation

E(RC) = Rf + [(E(RP) - Rf)/σP] × σC

Where: Slope = Sharpe ratio of optimal portfolio

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Decision Frameworks

1 decision frameworks to guide your analysis.

How does risk aversion affect portfolio choice?

  • More risk-averse (higher A): more allocation to risk-free asset, less to risky portfolio
  • Less risk-averse (lower A): more in risky portfolio, may use leverage

Mind Map

Visual overview of how concepts connect in this module.

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Risk-Return Tradeoff

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Answer
Higher expected return requires accepting higher risk. Historical data: stocks > bonds > T-bills in return and risk.
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Portfolio Risk and Return: Part II