Question

The standard deviation of return on investment A is 25%, while the standard deviation of return on investment B is 20%. If the correlation coefficient between the returns on A and B is −0.260, the covariance of returns on A and B is _________. Multiple Choice –0.2080 –0.0130 0.0130 0.2080

Answer 1

Answer: –0.0130

Explanation:

Correlation given the variance and the standard deviation of the two returns can be calculated by;

Correlation coefficient = Covariance of returns on investment A and B / (Standard deviation of return on investment A * Standard deviation of return on investment B).

Rearranging the formula, Covariance becomes;

Covariance of returns on investment A and B = Correlation coefficient * (Standard deviation of return on investment A * Standard deviation of return on investment B)

Covariance of returns on investment A and B = -0.260 * 0.25 * 0.20

Covariance of returns on investment A and B  = –0.0130