Defining investor objectives in terms of mean and standard deviation

Defining investor objectives in terms of mean and standard deviation:

a. may make it easier to estimate the probability that the objectives will be realized

b. usually makes it less likely that the investor will deviate from the investment policy because of current market conditions.

c. may make selecting an asset allocation more difficult for the individual

What is the correct choice?



COuld you please explain… Thanks!

a. False. Client objectives are likely specified in terms of goals, not in terms of risk and return. If you define their risks and objectives in terms of return and standard deviation only, it will be tougher to underfstand and estimate probability of reaching the goals.

b. Again, the client may not underatnd risk and return relationship, so he is less likely to deviate from his IPS if it is define din terms of meeting objectives and goals, instead of just meeting risk and return.

c. Same rationale. It makes it harder to choose an allocation to meet goals if we only focus on Return and risk. So this is correct.

At least thats how i think of it

This is a lousy question, but the answer is A.

a) If the investor says “I have $80k; I need $100k in 5 years” then applying a mean-variance framework gives an exact analytical answer (assuming normality) for the probability of reaching the goal. The risk/return will be selected to maximize this probability.

b) No one thinks this is correct.

c) Once the desired risk/return objective is set, deciding on portfolio allocation is incredibly EASY, as the spot on the efficient frontier is already determined.