Portfolio of Two Risky Securities

? ?12 is the correlation coefficient

? Special correlation cases:

? Perfectly (positively) correlated (?12?1)

?p?w?1?(1?w)?2

? Perfectly negatively correlated (?12??1)

?p?w?1?(1?w)?2

? In general: ?1??12?1

?p?w?1??1?w??2

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Example of Portfolio with Two Risky Assets

? Security 1: r1?14% and ?1?20%

? Security 2: r2?8% and ?2?15%

? ?12?0

? w?0.25

rP?0.25?14%?0.75?8%?9.5%

22222 ?P?0.25?0.2?0?0.75?0.15?0.01515625

?P?12.31%

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The Portfolio Risk?Return Trade?off

Portfolio R B V C D S

Proportion Proportion Expected in Asset 1 in Asset 2 Return %

0 100% 8.00 25% 75% 9.50 36% 64% 10.16 50% 50% 11.00 75% 25% 12.50 100% 0% 14.00

Standard

Deviation % 15.00 12.31 12.00 12.50 15.46 20.00

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The Portfolio Expected Return0.160.14Expected Return0.120.100.080.060.040.020.0000.20.40.60.81Portfolio Weights

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