STANDARD DEVIATION, , IS a statistical measure of the variability of a probability distribution around its expected value

(0.2)($800-$1,000)

RISK PREFERENCES: Decision makers have different views about risk and return: Decision makers wanted to be compensated for the risk associated with an investment. The greater the risk, the more the demanded return. The actual amount of compensation demanded, which is called the required rate of return, is influenced by the individual decisions makers attitude toward risk. DECISION MAKERS MAY CLASSFIED INTO ONE OF THE FOLLOWING GROUP: RISK AVERTERS: Risk averters are unwilling to pay an amount as much as the expected value of an uncertain investment. Risk aversion does not imply complete avoidance of risk. Risk-averse investors are wiling to accept greater risk provided the return is sufficiently high. Most investor in socks and bonds are risk averse. RISK NEUTRAL: Risk neutral decision makers are willing to pay the expected value. RISK TAKERS: Risk takers are wiling to pay more than the expected value.

RISK AND REURN OF A PORTFOLIO PORTFOLIO: A portfolio is a collection of two or more assets or securities. PORTFOLIO THEORY: Portfolio theory involves the selection of efficient portfolios. An efficient portfolio provides the highest return for a given level of risk or the least risk for a given level of return.

THE EXPECTED PORTFOLIO RTURN, p is the weighted average of the expected return from the individual assets in the portfolio.

Determining Portfolio Expected Return

RP is the expected return for the portfolio, Wj is the weight (investment proportion) for the jth asset in the portfolio, Rj is the expected return of the jth asset, m is the total number of assets in the portfolio.
Project E Expected return (Rj) Standard deviation ( i) Proportion invested in each project (W) ) 0.10 0.08 0.80 Project F 0.20 0.08 0.50

RP = ( Wj )( Rj )

RP = ( Wj )( Rj )

RP=(0.5)(0.10) + (0.5)(0.2)
= 0.15 or 15 %

W + W + 2 w w P1
p 1 1 2 2 1 2 2