Suppose that Ms.Lynch in Workouts can make up her portfolio using a risk-free asset that offers a surefire rate of return of 5% and a risky asset with an expected rate of return of 10%, with standard deviation 5.If she chooses a portfolio with an expected rate of return of 6.25%, then the standard deviation of her return on this portfolio will be

A) 0.63%.
B) 2.50%.
C) 1.25%.
D) 4.25%.
E) None of the above.

The standard deviation of a portfolio that combines a risk-free asset and a risky asset depends only on the portion of the portfolio invested in the risky asset. The expected return of 6.25% indicates that 25% of the portfolio is invested in the risky asset (since 5% is the risk-free rate and 10% is the risky asset's expected return, and 6.25% is exactly halfway between 5% and 7.5%, which would be the expected return if 25% were invested in the risky asset). The standard deviation of the portfolio will be 25% of the risky asset's standard deviation, which is 25% of 5%, or 1.25%.