Fin 351 Project 2 Derivation of the Efficient Frontier Part 1 1. Log into WRDS (Wharton) database, using the following information: Userid: sseechar Pwd: Plza.123 a. Choose CRSP (Center for the Research of Security Prices) database b. Choose North America c. Choose Equities d. Choose Monthly data files 2. Download data on monthly returns (choose Holding Period Return variable) for the most recent 5-year period on four companies (or mutual funds, ETFs, etc.) from CRSP database into the Excel file. Choose companies from unrelated industries. Use your common sense here. For example, computer hardware and software industries are closely related, but computer hardware and food industries are not. Make sure that your dates are consistent across all four stocks, i.e. you select returns for the same 5-year period. You can download similar data from Bloomberg 3. Using commands in the Excel Functions menu (click on fx button), calculate expected monthly returns on all three stocks (use AVERAGE function), their variances (VAR function), standard deviations (STDEV function), arrange them into variance-covariance matrix. The more efficient way to calculate the variance-covariance matrix is using cov-matrix.xlam application, posted on BB. You need to download this application onto your computer and then open it within your Excel program. Don’t forget to enable macros. In this example, Variance-Covariance is a 4 by 4 table. Suppose that it is located in cells (C98:F101), that is rows 98 through 101, columns C through F. On the diagonal of this matrix are variance estimates, on off-diagonal are covariance terms (we will use these addresses later in mmult command). 4. Now find the correlation coefficient between each pair of companies (CORREL function). Arrange them into the 4 by 4 · Correlation matrix 5. Annualize expected returns, variances and covariances. It means you have to multiply monthly expected returns, variances and covariances by 12. We can do this because we assume markets to be efficient at least in a weak form. Market efficiency means that monthly returns are independent of each other; that is the correlation coefficient between returns in one month and returns in any other month is 0. The annual standard deviation is just the square root of the annual variance. The annual correlation coefficient is the same as the monthly correlation coefficient. You can multiply the entire variance-covariance matrix by 12. Below is the link to the excellent tutorial on matrix manipulations in excel: http://facweb.cs.depaul.edu/mobasher/classes/csc575/assignments/MatrixOperations-Excel2007.pdf 6. Report monthly and annual statistics, calculated in (3) -- (5). Present annualized variances and covariances in the variance-covariance. Part 2 7. In the next four columns specify weights of the four stocks in your portfolio. Remember, that the weight of the forth stock in the portfolio can be expressed as w4 = 1- w1 – w2– w3. Alternatively, ...