You are considering investing in two stocks to form a portfolio. You are very ri

Question

You are considering investing in two stocks to form a portfolio. You are very risk averse (you do not like risk). Which of the following stock combinations will you choose for your portfolio (these are the only options)?
A. Stocks C & D which both have a beta of 2.0 B. Stocks A & B which have correlation coefficient of -1.0 C. Stocks G & H which have a correlation coefficient of +1.0 D. Stocks E & F which have a correlation coefficient of 0 (zero) You are considering investing in two stocks to form a portfolio. You are very risk averse (you do not like risk). Which of the following stock combinations will you choose for your portfolio (these are the only options)?
A. Stocks C & D which both have a beta of 2.0 B. Stocks A & B which have correlation coefficient of -1.0 C. Stocks G & H which have a correlation coefficient of +1.0 D. Stocks E & F which have a correlation coefficient of 0 (zero) You are considering investing in two stocks to form a portfolio. You are very risk averse (you do not like risk). Which of the following stock combinations will you choose for your portfolio (these are the only options)?
A. Stocks C & D which both have a beta of 2.0 B. Stocks A & B which have correlation coefficient of -1.0 C. Stocks G & H which have a correlation coefficient of +1.0 D. Stocks E & F which have a correlation coefficient of 0 (zero)

Explanation / Answer

when stock C & D have beta 2 , they are equally risky as both have high beta.

stocks G & H hace correlation coeffeicient 1, that means they are perfectly correlated and will increase or decrease in value in the same direction. So this combination is risky.

Stock E & F have correlation coefficient 0, that means they carry their individual risks and there is no risk diversification.

Only Stock A & B have correlation coefficient of -1, that means they are negatively correlated in a perfect way. When one stock loses value , the other gains and vice versa. Here there is complete risk diversification.

So as a risk averese investor , I shall choose combination B.Stocks A & B which have correlation coefficient of -1.0.

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