Probability Models For Portfolio Return and Risk

Question 1

the Expected Return of a Portfolio is composed of

Answer 1

N assets with weights, Wi, and Expected Returns, Ri

Question 2

Covariance is

Answer 2

a measure of how two assets move together.

It is the expected value of the product of product of the deviations of the two random variables from their respective expected values

Question 3

A common symbol for Covariance between two random variables X and Y is

Answer 3

Cov(X,Y) or written in terms of the return of Asset i, Ri, and the Asset j, Rj

Question 4

The following are properties of Covariance

Answer 4

The Covariance of a random variable with itself is its variance

Covariance may range from negative infinity to positive infinity

A Positive Covariance indicates that when one random variable is above its mean, the random variable also tends to be above its mean

A Negative Covariance indicates that when one random variable is above its mean, the random variable also tends to be below its mean

Question 5

a Covariance Matrix shows

Answer 5

the Covariances between returns on a group of assets

Question 6

to calculate the Portfolio Variance of Returns we use

Answer 6

the asset weights, returns variances, and returns covariances