# ECON-1006EL Study Guide - Quiz Guide: Capital Asset Pricing Model, Log-Normal Distribution, Capital Asset

by OC2592672

Department

Economics / Science ΓconomiqueCourse Code

ECON-1006ELProfessor

Brian Mac LeanStudy Guide

QuizThis

**preview**shows page 1. to view the full**4 pages of the document.**Portfolio theory and Capital asset pricing model

The distribution of returns

There are two forms of distributions, the normal distribution

and the

lognormal distribution.

In the short run the return distribution is close to the normal distribution.

As you see the normal distribution has no skewness and it only requires the

mean and variance to describe the whole distribution.

In the long run the returns are log-normally distributed.

The skewness results from the fact that returns >100% are possible, but

<100% not.

Constructing portfolios in a return

Standard deviation framework: Measures the deviation of an asset

from its mean. Therefore itβs a good measurement of risk.

The key question in the portfolio theory is to find for a given level of

risk the highest expected return which is possible.

β Efficient portfolio

Portfolio benefits

In order to minimize risk we have to know how the assets in our

portfolio interact in between. So we have to measure the strength and

direction of the linear relationship between our (two) assets. Or in

other words: we have to calculate the correlation coefficient.

Corr A,B =πΊA,B=ππ¨π―[π«π,π«π]

ππ[π«π]π± ππ[π«π]

Remember: the correlation coefficient is bound to a (-1,+1) interval.

Now we going to have a look on the effect on the portfolio risk.

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