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Weight is a constant but the returns are variable whose variance is shown by Var (Ri)
Because the covariance of an asset with itself is the variance of the asset, we can separate the varian
Cov(Ri, RJ) is the covariance of returns Ri and Rj and can be expressed as the product of the correlatio
Thus Cov(Ri,RJ) = p12sigma1sigma2
For a two asset portfolio, the expression for portfolio variance simplifies to the folllowing using covaria
Standard Deviation of two asset portfolio is given by the square root of the portfolio's variance:
Optimal portfolio is the point of tangency between the capital allocation line and indifference curve fo
In other words, Optimal Portfolio maximizes the return per unit of risk and simultaneously supplies inv
Portfolio Risk
The covariance in the formula for portfolio standard deviation can be expanded as follows:
Correlation is the measure of the consistency or tendency for two investments to act in similar way. It
average variance
average covariance
It is reasonable to say that portfolios with large number of assets, covariance among the assets accou
eturns of individual securities.
product of the correlation between the two returns p12 and the standard deviations of the two assets
ortfolio's variance:
the market, the line below shosws capital allocation line. The capital allocation line represents the portfolio ava
ed as follows:
which is basically the additional return required for the additional risk being assumed by the investor.
the investor.