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Covariance and Correlation Based on the following information, calculate the expected return and standard deviation of...

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Finance

Covariance and Correlation Based on the following information,calculate the expected return and standard deviation of each of thefollowing stocks. Assume each state of the economy is equallylikely to happen. What are the covariance and correlation betweenthe returns of the two stocks?

STATE OF ECONOMY

RETURN ON STOCK A

RETURN ON STOCK B

Bear

Normal

Bull

-.032

.124

.193

-.103

-.025

.469

Answer & Explanation Solved by verified expert
4.2 Ratings (664 Votes)

Stock A
Scenario Probability Return% =rate of return% * probability Actual return -expected return(A)% (A)^2* probability
Bear 0.3333 -3.2 -1.06656 -12.69905 0.005374991
Normal 0.3333 12.4 4.13292 2.90095 0.000280489
Bull 0.3333 19.3 6.43269 9.80095 0.003201634
Expected return %= sum of weighted return = 9.5 Sum=Variance Stock A= 0.00886
Standard deviation of Stock A% =(Variance)^(1/2) 9.41
Stock B
Scenario Probability Return% =rate of return% * probability Actual return -expected return(A)% (B)^2* probability
Bear 0.3333 -10.3 -3.43299 -7.596937 0.001923589
Normal 0.3333 -2.5 -0.83325 0.203063 1.37435E-06
Bull 0.3333 4.69 1.563177 7.393063 0.00182173
Expected return %= sum of weighted return = -2.7 Sum=Variance Stock B= 0.00375
Standard deviation of Stock B% =(Variance)^(1/2) 6.12
Covariance Stock A Stock B:
Scenario Probability Actual return% -expected return% for A(A) Actual return% -expected return% For B(B) (A)*(B)*probability
Bear 0.3333 -12.69905 -7.596937 0.003215475
Normal 0.3333 2.90095 0.203063 1.96339E-05
Bull 0.3333 9.80095 7.393063 0.00241506
Covariance=sum= 0.005650168
Correlation A&B= Covariance/(std devA*std devB)= 0.980824107

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Transcribed Image Text

Covariance and Correlation Based on the following information,calculate the expected return and standard deviation of each of thefollowing stocks. Assume each state of the economy is equallylikely to happen. What are the covariance and correlation betweenthe returns of the two stocks?STATE OF ECONOMYRETURN ON STOCK ARETURN ON STOCK BBearNormalBull-.032.124.193-.103-.025.469

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