Correlations and Portfolio Risk An investor is holding a portfolio and is consid

Question

Correlations and Portfolio Risk An investor is holding a portfolio and is considering adding either Stock A, Stock B or Stock C to her portfolio. With respect to her portfolio, Stock A has a correlation coefficient of 0.41, Stock B has a correlation coefficient of 0.49 and Stock C has a correlation coefficient of 0.83. If all three stocks have the same expected return she should choose ____________ to give the best chance of improving her excess return per unit of risk.

Correlations and Portfolio Risk An investor is holding a portfolio and is considering adding either Stock A, Stock B or Stock C to her portfolio. With respect to her portfolio, Stock A has a correlation coefficient of 0.41, Stock B has a correlation coefficient of 0.49 and Stock C has a correlation coefficient of 0.83. If all three stocks have the same expected return she should choose ____________ to give the best chance of improving her excess return per unit of risk.

Explanation / Answer

She should select Stock A as it has the lowest correlation coefficient with the portfolio which will help in reducing the risk of the portfolio and hence, improve return per unit of risk.

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