HKSI Paper 7 Financial risk management question: expected return

Answer: A. 7.40%

Expected return is the probability-weighted average of the possible returns: E(R) = Σ(probability × return) = (0.3 × 18%) + (0.5 × 8%) + (0.2 × −10%) = 5.4% + 4.0% − 2.0% = 7.40%. 5.33% is the simple average of the three outcomes, which ignores the probabilities. 8.00% is the single most likely outcome, not the probability-weighted mean. 11.40% treats the −10% return in the bad state as a gain of 10%. Source: Standard portfolio theory (expected return = sum of probability × return) (as at October 2026).