Question

Use the following data in answering CFA Questions:

Investor “satisfaction” with portfolio increases with expected return and decreases with variance according to the “utility” formula: U = E(r) - ½ Aσ²where A = 4.

Question: Based on the formula for investor satisfaction or “utility,” which investment would you select if you were risk averse with A = 4?

Short answer

I would select Investment 3.

Step-by-step solution

Given information

A =4.

“Utility” formula: U = E(r) - ½ Aσ² where A = 4.

Solution/Explanation

Investment	E ( r )	σ	U
1	0.12	0.30	-0.0600
2	0.15	0.50	-0.3500
3	0.21	0.16	0.1588
4	0.24	0.21	0.1518

I will choose the portfolio with highest utility value. Therefore, the correct answer is Investment 3.