CFA Level I · CFA Level I Exam · The Return and Risk of a Financial Portfolio
Two assets have a covariance of returns of 0.0036. The standard deviation of Asset X is 10% and the standard deviation of Asset Y is 12%. The correlation between the two assets is closest to:
The correlation is 0.30. Correlation equals covariance divided by the product of the two standard deviations, so 0.0036 divided by 0.10 times 0.12 (0.012) gives 0.30, a modest positive linear relationship between the two assets' returns.
- A0.30Correct
- B0.36
- C0.43
Explanation
Correlation = covariance / (σX × σY) = 0.0036 / (0.10 × 0.12) = 0.0036 / 0.012 = 0.30. The value 0.36 results from dividing by 0.01 instead of 0.012 (ignoring one standard deviation's size), and 0.43 is wrong because it comes from 0.0036/(0.10×0.12−0.0036).
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