FRM Part I · FRM Exam Part I · Multivariate Random Variables
Two assets have returns X and Y with Cov(X,Y) = 0.0036, a standard deviation of X of 0.10 and a standard deviation of Y of 0.06. What is the correlation between X and Y?
The correlation is 0.60. It equals the covariance of 0.0036 divided by the product of the two standard deviations, 0.10 times 0.06, which is 0.006. Dividing the covariance by this product standardizes it to a value between -1 and 1.
- A0.06
- B0.60Correct
- C0.36
- D0.0216
Explanation
Correlation = Cov / (σX σY) = 0.0036 / (0.10 × 0.06) = 0.0036 / 0.006 = 0.60. The option 0.36 is wrong because it would result from dividing by the wrong base (0.01). The option 0.0216 is a product of the covariance and a standard deviation figure and has no meaning here.
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