READING 5 PORTFOLIO MATHEMATICS

Question 1

What is the expected return of a portfolio composed of?

Answer 1

Assets with weights and expected returns

Question 2

The expected return and variance for a portfolio of assets can be determined using the properties of the individual assets in the portfolio. To do this, it is necessary to establish the portfolio weight for each asset. Explain how can you do that?

Answer 2

Basically, divide the market value of an investment in Asset X by the market value of the portfolio

Question 3

A measure of how two assets move together. It is the expected value of the product of the deviations of the two random variables from their respective expected values.

Answer 3

Covariance

Note: This is a bit tricky, because both Covariance and Correlation measure how two assets move together, But Covariance focuses on general movement and Correlation focuses on linear movement

Question 4

The covariance of a random variable with itself is?

Answer 4

its variance: that is, Cov (RA, RA) = Var (RA).

Question 5

A positive covariance indicates that when one random variable is above its mean, the other random variable also tends to be?

Answer 5

Above its mean

Question 6

A negative covariance indicates that when one random variable is above its mean, the other random variable tends to be?

Answer 6

Below its mean

Question 7

A method that shows the covariances between returns on a group of assets

Answer 7

Covariance matrix

Question 8

Probability that a portfolio value or return will fall below a particular target value or return over a given period.

Answer 8

Shortfall risk

Question 9

States that the optimal portfolio minimizes the probability that the return of the portfolio falls below some minimum acceptable level. This minimum acceptable level is called the threshold level.

Answer 9

Roy’s safety-first criterion