# Question: if investors are varianceaverse they hold the market portfolio which...

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If investors are variance-averse they hold the market portfolio, which predicts that πΈππ β ππΉ = πΆπππ π‘πππ‘ β πΆππ£(ππ , ππ) , where πΈππ is the expected return on stock π; ππΉ is the risk free return; and πΆππ£(ππ , ππ) is the covariance between the return of the stock and the return on the market index. Suppose the stock market consists of only 2 stocks A and B and a risk-free asset. Let πΈππ΄ = 10%; πΈππ΅ = 8%; ππΉ = 4%; the variance of A is πππ(ππ΄ ) = 0.20; the variance of B is πππ(ππ΅) = 0.15; and the covariance between A and B is πΆππ£(ππ΄, ππ΅) = 0.40. What is the composition of the market index?