Question

• Total investment: 100K

• Invested 30K in stock A, with three past returns: 5%, 6%, and 7%.

• Invested the rest in stock B, with three past returns: 1%, 11%, and 21%.

• What is the variance and standard deviation of your portfolio, if correlation between stock A and B is o.5?

Answer 1

Calculation of Average Return of Stock A and Stock B

Where,

AR = Average Return

R = Return in each period

n = number of period.

Average return of A

Average return of B

Calculation of Variance and Standard deviation of Stock A and Stock B

where,

Variance of Stock A

by solving,

Standard deviation of A

Variance of Stock B

by solving,

Standard deviation of B

Calculation of Coefficient of variation (CV)

CV of Stock A

CV of Stock B

Calculation of Variance and Standard deviation of Portfolio:

where,

WA = Weight of Stock A in Portfolio

WB = Weight of Stock B in Portfolio

Total investment = $100,000

Investment in A = $30,000

Investment in B = $70,000

thus,

Weight of A (WA) = 30000/100000 = 0.3

Weight of B (WB) = 70000/100000 = 0.7

Correlation (A,B) = 0.5

Putting all values in equation:

by solving,

and,

Standard deviation of portfolio