Consider a risky portfolio. The end-of-year cash flow derived from the portfolio will be either $70,000 or $200,000 with equal probabilities of 0.5. The alternative risk-free investment in T-bills pays 6 percent per year.

Question

a) If you require a risk premium of 12 percent, how much will you be willing to pay for the portfolio?

b) Suppose that the portfolio can be purchased for the amount in a). What will be the expected rate of return on the portfolio?

Answer 1

a) 118,421.05
b) 14%