Risk, return and the portfolio theory

Question 1

Formula for total monetary return on a share

Answer 1

Dividend income + capital gains (losses)

Question 2

Single period return on a stock formula

Answer 2

Dividend yield + capital gains yield

Question 3

Dividend yield formula

Answer 3

Dt / Pt-1

Question 4

Capital gains yield formula

Answer 4

(Pt-Pt-1)/Pt-1

Question 5

Multi period compound return formula

Answer 5

HPR = ((1+R1) x (1+R2) x … x (1+RT)) - 1

Question 6

Arithmetic mean formula

Answer 6

RA = 1/T (R1 + R2 + … + RT)

Question 7

Geometric average formula

Answer 7

RG = ((1+R1) x (1+R2) x … x (1+RT))^1/T - 1

Question 8

What is the expected variance

Answer 8

The volatility of a risky asset expected in the future

Question 8

What does the covariance measure

Answer 8

How much returns on two risky assets move together (negative: opposite, positive: together, 0: independent)

Question 9

What does correlation coefficient measure

Answer 9

The degree to which two variables are linearly related

Question 10

What is diversification

Answer 10

Reduces risk by including a wide variety of investments within a portfolio

Question 11

What does the degree of risk reduction depend on

Answer 11

The extent of statistical interdependence between the returns of the different investments (the more negative the better)
The number of securities (more securities lowers the risk)