CMA Final · Strategic Financial Management · Portfolio Theory and Practice
For two shares held in a portfolio, the covariance of returns is 120 (%²). The standard deviations of the two shares are 10% and 15%. What is the correlation coefficient between their returns?
The correlation coefficient is 0.80. It is found by dividing the covariance of 120 by the product of the two standard deviations, 10 multiplied by 15, which equals 150. This standardises covariance into a figure between minus one and plus one.
- A0.80Correct
- B0.08
- C1.25
- D0.60
Explanation
Correlation = Covariance / (σ1 × σ2) = 120 / (10 × 15) = 0.80. Dividing by the sum of the standard deviations or by a variance would give wrong values; 1.25 results from inverting the ratio.
Did you get it right without looking?
One question tells you little. A timed set on Portfolio Theory and Practice shows your real accuracy, how long you take and where you lose marks.
More Portfolio Theory and Practice questions
- Security M has expected return 14% and standard deviation 20%. Security N has expected return 8% and standard deviation 10%. Their correlati…
- Two-asset portfolio: Asset X has a standard deviation of 8% and Asset Y has a standard deviation of 12%. The correlation is -1. What proport…
- An investor puts Rs 4 lakh in a share with beta 1.5, Rs 3 lakh in a share with beta 0.8 and Rs 3 lakh in treasury bills (beta zero). The ris…
- A portfolio has 50% in Asset P (expected return 12%, SD 15%) and 50% in Asset Q (expected return 8%, SD 25%). Correlation is zero. What is t…
- A portfolio has weights of 40% in Stock M and 60% in Stock N. The standard deviations are 20% for M and 30% for N, and the correlation betwe…
- An investor holds three securities in a portfolio with weights and expected returns as follows: Security P (40%, 12%), Security Q (35%, 15%)…