Suppose Becky is choosing how to allocate her portfolio between two asset classes: risk-free government bonds and a risky group of diversified stocks. The following table shows the risk and return associated with different combinations of stocks and bonds. Combination Fraction of Portfolio in Average Annual Return Standard Deviation
Diversified Stocks(Percent) (Percent) of Portfolio Return
(Risk)(Percent)
A 0 1.50 0
B 25 3.50 5
C 50 5.50 10
D 75 7.50 15
E 100 9.50 20
As the risk of Becky's portfolio increases, the average annual return on her portfolio __ ( rises, falls) .
Suppose Becky currently allocates 25% of her portfolio to a diversified group of stocks and 75% of her portfolio to risk-free bonds; that is, she chooses combination B. She wants to increase the average annual return on her portfolio from 3.5% to 7.5%. In order to do so, she must do which of the following?
a) Sell some of her stocks and use the proceeds to purchase bonds
b) Sell some of her bonds and use the proceeds to purchase stocks
c) Accept more risk
d) Sell some of her stocks and place the proceeds in a savings account