Question

1. How to calculate the historical average return and the volatility of stock?

2. How to calculate the correlation matrix among different stocks? (can you show me with real examples)

Answer 1

1.Calculation of historical average return and the volatility of stock

Formula:

Average Return=Sum of Annual return of Each year/No. of Years

Standard Deviation=SQRT[(Sum of D^2)/no. of years]

You can understand the above formula through following example:

Year	Return(%)
1	11.54
2	5.46
3	-2

Calculate the average return on the stock by adding the annual return and dividing the results by number of years. as follows;

=(11.54+5.46-2)/3

=5%

Now,for calculating historical standard deviation,calculate the difference between the average return(i.e 5%) and each annual return.In the given exmaple the difference is as follows:

11.54-5=6.54%

5.46-5=.46%

-2-5=-7%

Now square each of the differece(D^2)

=(6.54)^2=42.77%

=(.46)^2=.2116%

=(-7)^2=49%

Now,add each of the result and divide the sum by number of years minus 1

Thus historical standard deviation is;

=SQRT(42.77+.2116+49)/(3-1)

=6.78%