Question

In: Finance

The market risk of a portfolio is equal to the weighted average market risk of its...

The market risk of a portfolio is equal to the weighted average market risk of its components, and the total risk of a portfolio is equal to the weighted average total risk of its components. Ture or False. the correct answers are False but why? I need some explanation.

Solutions

Expert Solution

The risk of a portfolio is measured by its standard deviation. However, the risk is not the weighted average risk as the individual stocks do not have perfect correlation with each other .

The standard deviation of a portfolio is given by

Where Wi is the weight of the security i,

is the standard deviation of returns of security i.

and is the correlation coefficient between returns of security i and security j

If correlation coefficient = +1 for all the pairs of securities in the portfolio, then only the standard deviation is the highest and is the weighted average standard deviation of its components

Else, the standard deviation of the portfolio is lesser (which is usually the case) than the weighted average standard deviation of the components.

So, the statement is FALSE for the reasons above


Related Solutions

The market risk of a portfolio is equal to the weighted average market risk of its...
The market risk of a portfolio is equal to the weighted average market risk of its components, and the total risk of a portfolio is equal to the weighted average total risk of its components. True or False? Please explain.
Find the average return and standard deviation of an equal-weighted (1/3 in each) portfolio consisting of...
Find the average return and standard deviation of an equal-weighted (1/3 in each) portfolio consisting of the three stocks. Explain how a portfolio’s standard deviation can be lower than any of the three stock’s standard deviations that make up that portfolio. Year LAX return UWL return WIS return 2013 5% 2% 10% 2014 10% 4% 12% 2015 -3% 3% 8% 2016 12% -2% 9% 2017 1% 5% 15%
S is an efficient portfolio with volatility of return equal to that of the market portfolio....
S is an efficient portfolio with volatility of return equal to that of the market portfolio. What is the beta and the idiosyncratic volatility of portfolio S?
S is an efficient portfolio with volatility of return equal to that of the market portfolio....
S is an efficient portfolio with volatility of return equal to that of the market portfolio. What is the beta and the idiosyncratic volatility of portfolio S?
A portfolio beta is a weighted average of the betas of the individual securities which comprise the portfolio.
13A portfolio beta is a weighted average of the betas of the individual securities which comprise the portfolio. However, the standard deviation is not a weighted average of the standard deviations of the individual securities which comprise the portfolio. Explain why this difference exists.14Explain the difference between systematic and unsystematic risk.17A stock has an expected return of 11 percent, the risk-free rate is 6.1 percent, and the market risk premium is 4 percent.Calculate the stock's beta.
Choose the correct statements within Portfolio risk concept: 1)    Total portfolio risk (σ) is equal to nonsystematic...
Choose the correct statements within Portfolio risk concept: 1)    Total portfolio risk (σ) is equal to nonsystematic risk plus non-diversifiable risk. 2)    Total portfolio risk (σ) is equal to systematic risk minus nonsystematic risk. 3)    Adding assets to a portfolio can reduce its systematic risk. 4)    Each new asset added to a portfolio will reduce its diversifiable risk, but after a certain amount of assets in portfolio this effect will be close to 0. 5)    Market risk can be reduced to 0 by adding assets...
What is the standard deviation and mean returns for an equal weighted portfolio that consists stocks...
What is the standard deviation and mean returns for an equal weighted portfolio that consists stocks X,Y,Z(equally weighted). Use the data given below. Stocks Mean Return Variance of Return X 2 2.25 Y 4 36 Z 6 4 Correlations X and Y X and Z Z and Y 0.5 0.2 0.9 2. A bond has a face value of $1000 with a time to maturity ten years from now. The yield to maturity of the bond now is 10%.  What is...
The standard deviation of a portfolio: Multiple Choice is a weighted average of the standard deviations...
The standard deviation of a portfolio: Multiple Choice is a weighted average of the standard deviations of the individual securities held in the portfolio. is an arithmetic average of the standard deviations of the individual securities which comprise the portfolio. can never be less than the standard deviation of the most risky security in the portfolio. can be less than the standard deviation of the least risky security in the portfolio. must be equal to or greater than the lowest...
An investor created an equal weighted portfolio of AMZN, IMB, AAA and DAE on July 1,...
An investor created an equal weighted portfolio of AMZN, IMB, AAA and DAE on July 1, 2016. These stocks did not pay any dividends during the period in this problem. ? The returns on the stocks in July 2016 were 7.6%, ?2.1%, 6.8%, and 1.8%, respectively. The returns on the stocks in August 2016 were 2.4%, ?4.8%, 3.1%, 5.2%.? • What was the portfolio return in July 2016? ? • What would be the portfolio return in August 2016 if...
‘Diversification enables us to reduce some of the risk in a portfolio but market risk will...
‘Diversification enables us to reduce some of the risk in a portfolio but market risk will always remain.’ Do you agree with this statement? Discuss.
ADVERTISEMENT
ADVERTISEMENT
ADVERTISEMENT