If a portfolio had a return of 11%, the risk-free asset return was 6%, and the standard deviation of the portfolio's excess returns was 25%, the risk premium would be

Question

BlackTom AI · Accepted Answer

To start, let’s identify what the risk premium represents in this context: it is the excess return of the portfolio over the risk-free rate.
Option A: 14%. This would imply a portfolio return of 20% if the risk-free rate is 6%, which is not given. Since the portfolio return is stated as 11%, A clearly overshoots the actual excess return.
Option B: 6%. This would suggest that the portfolio’s excess return equals 6%, meaning a portfolio return of 12% when the risk-free rate is 6%. The given portfolio return is 11%, so B is too large by 1 percentage point.
Option C: 35%. This is far higher than the reported numbers; it would imply an enormous excess return far exceeding both the portfolio and risk-free rates, which is inconsistent with the provided data.
Option D: 21%. Similarly, this would require a much larger gap between the portfolio return and the risk-free rate than what is actually observed; it misaligns with the 11% portfolio return.
Option E: 5%. The risk premium is calculated as the portfolio return minus the risk-free rate: 11% − 6% = 5%. This aligns exactly with the given figures and represents the actual excess return over the risk-free rate.
In summary, the correct computation is the portfolio return minus the risk-free rate, which yields 5%. All other options either overstate or misstate the relationship between portfolio return and the risk-free benchmark.

If a portfolio had a return of 11%, the risk-free asset return was 6%, and the standard deviation of the portfolio's excess returns was 25%, the risk premium would be

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