8. Portfolio Expected Return and Variance
m. calculate and interpret covariance given a joint probability function;
What is the expected return of a portfolio of assets?
The expected return of a portfolio of assets is the market-weighted average of the expected returns on the individual assets in the portfolio.
What is the formula for variance of a portfolio's return?
- It consists of two components: the weighted average of the variance for individual assets and the weighted covariance between pairs of individual assets
- $$\sigma^2(R_p) = w_1^2 \sigma^2(R_1) + w_2^2 \sigma^2(R_2) + 2 w_1 w_2 Cov(R_1, R_2)$$