Question

A financial planner is examining the portfolios held by several of her clients. Identify which of the following portfolios is likely to have the smallest standard deviation: A portfolio consisting of about 30 randomly selected stocks A portfolio containing only Chevron stock A portfolio consisting of about 30 energy stocks

Answer 1

Answer: A portfolio containing 30 randomly selected stocks will have the smallest standard deviation.

Explanation:

A portfolio containing 30 randomly selected stocks tend to have a lesser covariance between the security returns. Also, there will be increased diversification. This increased diversification lowers the risk of portfolio thereby resulting in a lower standard deviation.

Other options are not correct. A portfolio consisting of 30 energy stocks will have a higher level of covariance between the security returns. Therefore, the standard deviation is lower.

A coefficient of variance greater than one will have a high level of variance while a coefficient variance less than 1 has a lower level of variance. A lesser covariance will result to a lower standard deviation and vice-versa.