[topharry123]

This question is on the AICPA sample tests questions:

Standard deviation and expected return information for four investments selling for the same price is as follows:

Investment Standard deviation Expected return

A 25% 20%

B 20% 18%

C 12% 8%

D 10% 10%

What investment is the best choice in terms of the risk/return relationship?

Investment A.

Investment B.

Investment C.

Investment D.

Now I use CPA Excel but I can’t seem to find anything that would help with this question in the text. Does anyone know how to solve this?

Thanks

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AUD - 91
BEC - 85

[Anonymous]

This is question is simply asking you to use a modified form of the”Sharp” ratio to determine the best investment. The Sharp ratio takes into consideration the risk of the investment versus the return and determines the best investment for the given facts. The investment that yields the highest Sharp ratio will be considered the best investment, or in this case, the correct answer.

The Sharp ratio takes risk, measured as volatility or standard deviation as the denominator and return as the numerator. In essence, this will tell you how much return the investment yields per unit of risk, for each respective investment.

Hope this helps!

[acamp]

Risk (deviation) bad, Return Good

So you want the highest Return to Deviation ratio, so answer D at 1:1, all the others have more deviation than return, so they are below 1:1

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California CPA

[topharry123]

Thanks to both of you for the responses! That makes good sense, i'll have to look up the sharpe ratio again as it's been a while since I've looked at it but that is definitely very helpful !

FAR - 95
REG - 93
AUD - 91
BEC - 85

[barelystayingsane]

This is a BEC question? Becker doesn't cover this at all. I was a finance major, so I knew how to figure this out, but it makes me wonder what else Becker didn't cover.

[Author]

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