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Corporate Finance - Essay Example
Finance & Accounting
Pages 4 (1004 words)
I agree to this because diversification spreads the risk over the different types of assets. Given the fact that the two assets are uncorrelated to each other, it would be rational to invest in both assets …
I agree to this because diversification spreads the risk over the different types of assets. Given the fact that the two assets are uncorrelated to each other, it would be rational to invest in both assets. The higher risk of asset S will be compensated with the less risky return of asset B. 2. I totally disagree to the statement; it is quite opposite of the fact that there is a direct relationship between correlation of the portfolio assets and its risk. The higher the correlation between the portfolio assets, the more chances will be that the downside movement of one asset will accompany the same in the other and thus the investment will turned to be the worst. Thus, a rational investor should invest in uncorrelated or atleast less correlated assets in order to reduce the overall risk of the portfolio (Ross et. al, 2013). 3. I agree to this argument. Since the expected return of portfolio is the weighted average of the expected returns of the individual assets, it must lie in between the range of these two individual expected returns. . However, the standard deviation of the return on portfolio doesn’t need to be in b/w the individual standard deviations of the two assets, especially when the stocks are uncorrelated, because the standard deviation of a portfolio is not just the weighted average of individual standard deviations but is computed using the standard deviation formula to the return on portfolio assets rather than just the returns for one asset ...
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