Challenge: Portfolio Risk Calculator
When building a portfolio, understanding both the expected return and the risk (often measured by standard deviation) is crucial for making informed investment decisions. The expected return gives you an idea of what you might gain on average, while the risk quantifies how much the returns can vary. Asset weights play a fundamental role in this calculation: the proportion of your total investment allocated to each asset directly influences both the potential reward and the exposure to risk. If the weights do not sum to 1, your portfolio is either over- or under-invested, which can distort both your risk and return calculations. Ensuring proper weight allocation and accurately computing these metrics are foundational skills in portfolio management.
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Write a function that calculates the expected return and risk (standard deviation) of a two-asset portfolio using lists of historical returns and given weights. If the asset weights do not sum to 1, the function should raise a ValueError.
- Compute the mean return for each asset using the provided lists.
- Calculate the portfolio's expected return using the given weights.
- Calculate the standard deviation (risk) of each asset.
- Compute the covariance between the two assets.
- Use the weights, standard deviations, and covariance to calculate the portfolio's standard deviation.
- Return both the expected return and the standard deviation as a tuple.
- Raise a
ValueErrorif the weights do not sum to 1.
Solution
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When building a portfolio, understanding both the expected return and the risk (often measured by standard deviation) is crucial for making informed investment decisions. The expected return gives you an idea of what you might gain on average, while the risk quantifies how much the returns can vary. Asset weights play a fundamental role in this calculation: the proportion of your total investment allocated to each asset directly influences both the potential reward and the exposure to risk. If the weights do not sum to 1, your portfolio is either over- or under-invested, which can distort both your risk and return calculations. Ensuring proper weight allocation and accurately computing these metrics are foundational skills in portfolio management.
Swipe to start coding
Write a function that calculates the expected return and risk (standard deviation) of a two-asset portfolio using lists of historical returns and given weights. If the asset weights do not sum to 1, the function should raise a ValueError.
- Compute the mean return for each asset using the provided lists.
- Calculate the portfolio's expected return using the given weights.
- Calculate the standard deviation (risk) of each asset.
- Compute the covariance between the two assets.
- Use the weights, standard deviations, and covariance to calculate the portfolio's standard deviation.
- Return both the expected return and the standard deviation as a tuple.
- Raise a
ValueErrorif the weights do not sum to 1.
Solution
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