Question

You are given the following information:

State of Economy	Return on Stock A	Return on Stock B
Bear	.109	−	.052
Normal	.108		.155
Bull	.080		.240

Assume each state of the economy is equally likely to happen.

Calculate the expected return of each stock. (Do not round intermediate calculations. Enter your answers as a percent rounded to 2 decimal places, e.g., 32.16.)

	Expected return
Stock A	9.90 Correct %
Stock B	14.90 Incorrect %

  
Calculate the standard deviation of each stock. (Do not round intermediate calculations. Enter your answers as a percent rounded to 2 decimal places, e.g., 32.16.)

	Standard deviation
Stock A	1.34 Correct %
Stock B	7.69 Incorrect %

What is the covariance between the returns of the two stocks? (A negative answer should be indicated by a minus sign. Do not round intermediate calculations and round your answer to 6 decimal places, e.g., 32.161616.)

Covariance            -.000881 Incorrect

What is the correlation between the returns of the two stocks? (A negative answer should be indicated by a minus sign. Do not round intermediate calculations and round your answer to 4 decimal places, e.g., 32.1616.)

Correlation            -0.853337 Incorrect

Answer 1

Expected Return:
Stock A=0.109*1/3+0.108*1/3+0.080*1/3=9.90%

Stock B=(-0.052)*1/3+0.155*1/3+0.240*1/3=11.4333333%

Standard Deviation:
Stock A=sqrt(1/3*(10.9%-9.90%)^2+1/3*(10.8%-9.90%)^2+1/3*(8%-9.90%)^2)=1.344%

Stock B=sqrt(1/3*(-5.2%-11.433%)^2+1/3*(15.5%-11.433%)^2+1/3*(24%-11.4333%)^2)=12.263%

Covariance=1/3*(10.9%-9.90%)*(-5.2%-11.433%)+1/3*(10.8%-9.90%)*(15.5%-11.433%)+1/3*(8%-9.90%)*(24%-11.4333%)=-0.001228314

Correlation=-0.001228314/(1.344%*12.263%)=-0.745269597