Portfolio Variation: What is Portfolio Variation
Portfolio volatility is a measure of the risk that the total actual return of a set of portfolio securities fluctuates over time. Portfolio variation statistics are measured using the standard deviation of each security in the portfolio and the correlation of each security pair in the portfolio.
Portfolio variation is a measure of the total risk of a portfolio and the standard deviation of the portfolio is square.
Portfolio Variation considers the weight and variability of each asset in the portfolio and their participation.
The low correlation between the securities in the portfolio is the result of less portfolio differentiation.
Portfolio differentiation defines the risk-axis of functional boundaries in modern portfolio theory (MPT).
Understanding portfolio variation
Portfolio variation looks at the correlation or correlation coefficient for securities in a portfolio. The low correlation between the securities in the portfolio is the result of less portfolio differentiation. The portfolio variation is calculated by multiplying the square weight of each security by its corresponding variation and by adding a coefficient of double the multiplied weighted average weight of all the individual security pairs. MPT states that portfolio variability can be reduced by selecting asset classes with low or negative correlations, such as stocks and bonds, where portfolio variability (or standard deviation) is the X-axis of functional boundaries.
Portfolio Variation and Modern Portfolio Theory
Modern Portfolio Theory (MPT) is a framework for building an investment portfolio. The prudent investors try to maximize their returns, while at the same time minimizing risk, sometimes using deliberate volatility to take this idea as a central basis for MPT. Target returns can be achieved at the lowest level of investor risk and volatility, which is called the functional limit. The risk in the MPT portfolio can be reduced by investing in interrelated assets.
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