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Risk and Return Measures - Correlation and Volatility Statistics

  1. Beta (β) - Measures only systematic risk, e.g. that which is found in the market and not unique to a given investment. The market has a beta of 1. A stock or portfolio with a beta of 1.37 is 37% more volatile than the market. A stock with a beta of <1 is less volatile than the market. Betas for individual securities are not stable over time, but are within a portfolio as the individual betas' fluctuations tend to offset one another. Beta is an effective measure of total risk in a portfolio where unsystematic risk is eliminated through diversification.


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Expect some questions on the interpretation of beta, its applications and its limitations.

  1. Covariance - A measurement of the extent to which two or more assets are correlated. The formula is expressed as follows:

Covariance=σAσBRAB

If the covariance between Stock I and Stock II is .0083 and their respective standard deviations are 37% and 9%, respectively, then their covariance is calculated as follows:

0.0083=(.37)(.09)(RI,II), then RI,II = .0083/{(.37)(.09)}=.092
  1. Semivariance - The average squared deviation below the mean, it is a risk measure that focuses only on the variability of returns below the average or expected return. It is used principally to measure the extent of downside risk.
Measures of Investment Return

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