- CFA Exams
- CFA Level I Exam
- Topic 9. Portfolio Management
- Learning Module 63. Portfolio Risk and Return: Part II
- Subject 1. Capital Market Theory

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**CFA Practice Question**

You are considering a portfolio only of long positions not involving leverage and have the following information:

2 | 18% | 64 | R

3 | 24% | 400 | R

Stock | Expected Return | Variance | Correlation

1 | 15% | 100 | R

_{1,2}= 0.62 | 18% | 64 | R

_{1,3}= 0.23 | 24% | 400 | R

_{2,3}= -1.0Consider a portfolio consisting of only Stock 2 and 3. Choose the correct statement:

A. With weights of 0.5 in each stock, the risk of the portfolio will necessarily be reduced to zero because of the -1.0 correlation coefficient.

B. The standard deviation of this portfolio could be larger than 20%.

C. The risk of this portfolio could be zero under the right circumstances.

**Explanation:**Given the -1.0 correlation between the two securities, the risk of this portfolio could be zero if the correct amount were invested in each.

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**User Contributed Comments**
1

User |
Comment |
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jejasin |
This is a hard one...I notice now that the -1 correlation is between 2 and 3, but I was thrown off because stock 2's correlation is between 1 and 2. Adding that 3rd stock made me question myself more. |