Risk Neutral - Portfolio Theory

Portfolio Theory

In portfolio choice, a risk neutral investor able to choose any combination of an array of risky assets (various companies' stocks, various companies' bonds, etc.) would invest exclusively in the asset with the highest expected yield, ignoring its risk features relative to those of other assets, and would even sell short the asset with the lowest expected yield as much as is permitted in order to invest the proceeds in the highest expected-yield asset. In contrast, a risk averse investor would diversify among a variety of assets, taking account of their risk features, even though doing so would lower the expected return on the overall portfolio. The risk neutral investor's portfolio would have a higher expected return, but also a greater variance of possible returns.