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# Risk and return: Compare two Bank of Tinytown loans

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The Bank of Tinytown has two \$20,000 loans with the following characteristics: Loan A has an expected return of 10% and a standard deviation of returns of 10%. The expected return and standard deviation of returns for loan B are 12% and 20%, respectively.

a) If the covariance between loan A and B is 0.015 (1.5%) what are the expected return and the standard deviation of this portfolio?
b) What is the standard deviation of the portfolio if the covariance is -0.015 (-1.5%)?
c) What role does the covariance, or correlation, play in the risk reduction attributes of modern portfolio theory?

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The bank of Tinytown has two \$20,000 loans with the following characteristics: Loan A has an expected return of 10% and a standard deviation of returns of 10%. The expected return and standard deviation of returns for loan B are 12% and 20%, respectively.

a) If the covariance between loan A ...

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