Asked by Samantha Allen on May 12, 2024
Verified
To construct a riskless portfolio using two risky stocks, one would need to find two stocks with a correlation coefficient of ________.
A) -0.5
B) 0.0
C) 0.5
D) -1.0
Correlation Coefficient
A numerical measure of the linear correlation between two variables, ranging from -1 to 1.
Riskless Portfolio
A theorized portfolio of investments that has a guaranteed return, with no risk of financial loss.
Risky Stocks
Shares in companies with high volatility and potential for substantial gains or losses.
- Understand the critical role that correlation coefficients play in the diversification of portfolios and the mitigation of financial risks.
Verified Answer
CF
Crystal FisetteMay 14, 2024
Final Answer :
D
Explanation :
A correlation coefficient of -1.0 indicates a perfect negative correlation between two stocks, meaning that they move in opposite directions. By combining two negatively correlated stocks, it is possible to create a riskless portfolio, as gains in one stock offset losses in the other. Therefore, choice D is the best option for constructing a riskless portfolio using two risky stocks.
Learning Objectives
- Understand the critical role that correlation coefficients play in the diversification of portfolios and the mitigation of financial risks.
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