《《Investment 8th Chap006》.docVIP

CHAPTER 6: RISK AVERSION AND CAPITAL ALLOCATION TO RISKY ASSETS PROBLEM SETS 1. (e) 2. (b) A higher borrowing is a consequence of the risk of the borrowers’ default. In perfect markets with no additional cost of default, this increment would equal the value of the borrower’s option to default, and the Sharpe measure, with appropriate treatment of the default option, would be the same. However, in reality there are costs to default so that this part of the increment lowers the Sharpe ratio. Also, notice that answer (c) is not correct because doubling the expected return with a fixed risk-free