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Co-Variance: An Example

  • It can be simplified in computation as
  • Suppose two stocks A and B have the following values in one week: (2, 5), (3, 8), (5, 10), (4, 11), (6, 14).
  • Question: If the stocks are affected by the same industry trends, will their prices rise or fall together?
    • E(A) = (2 + 3 + 5 + 4 + 6)/ 5 = 20/5 = 4
    • E(B) = (5 + 8 + 10 + 11 + 14) /5 = 48/5 = 9.6
    • Cov(A,B) = (2×5+3×8+5×10+4×11+6×14)/5 − 4 × 9.6 = 4
  • Thus, A and B rise together since Cov(A, B) > 0.

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