A report claims that the returns for the investment portfolios with a single stock have a standard deviation of 0.58 , while the returns for portfolios with 35 stocks have a standard deviation of 0.326 . Explain how the standard deviation measures the risk in these two types of portfolios. Choose the correct answer below. A. A lower standard deviation means less certainty in the return and more risk. Hence, the returns for portfolios with 35 stocks have more risk than the ones with a single stock. B. Compare the ratio of the standard deviation to the number of stocks for each type of portfolio. If the ratio is smaller, than the risk is higher. Hence, the returns for portfolios with 35 stocks have more risk than the ones with a single stock. C. A lower standard deviation means more certainty in the return and less risk. Hence, the returns for portfolios with 35 stocks have less risk than the ones with a single stock. D. Compare the ratio of the standard deviation to the number of stocks for each type of portfolio. If the ratio is smaller, than the risk is higher. Hence, the returns for portfolios with 35 stocks have less risk than the ones with a single stock. E. They both have the same risk because the difference in the standard deviation is too small.
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Standard deviation is a key measure of risk in investment portfolios, reflecting how much the returns can fluctuate from the average return. In the case of a single stock, a higher standard deviation of 0.58 indicates greater volatility and uncertainty in returns. In contrast, the standard deviation for a portfolio of 35 stocks at 0.326 suggests that diversification has helped reduce the variability of returns, resulting in less risk. The correct interpretation here is that a lower standard deviation indicates more certainty in returns and consequently less risk. Therefore, you can confidently choose option C: "A lower standard deviation means more certainty in the return and less risk. Hence, the returns for portfolios with 35 stocks have less risk than the ones with a single stock." This beautifully illustrates the advantages of diversification in investment strategies!
