Data Source and Methodology
All calculations are based on standard financial algorithms for covariance. For detailed information, refer to Investopedia. All calculations adhere strictly to provided formulas and data.
The Formula Explained
Glossary of Variables
- Covariance (Cov): A measure of how two assets move together.
- Asset 1 Returns: The percentage return of the first asset.
- Asset 2 Returns: The percentage return of the second asset.
- E[X]: Expected value of X (mean of asset 1 returns).
- E[Y]: Expected value of Y (mean of asset 2 returns).
How It Works: A Step-by-Step Example
Consider two assets with returns over a period. By entering their returns in the calculator, the covariance is computed as the average of the products of their deviations from their respective means.
Frequently Asked Questions (FAQ)
What is covariance in finance?
Covariance is a measure of the relationship between two variables in a financial context. It indicates how two asset returns move together.
How do I calculate covariance?
Covariance is calculated by finding the average of the product of the deviations of each pair of data points in two datasets. Our calculator simplifies this process.
Why is covariance important?
Covariance is crucial in portfolio management as it helps in diversification by understanding how different assets correlate.
Can covariance be negative?
Yes, a negative covariance indicates that as one asset's return increases, the other's decreases, which can be useful for diversification.
Is a higher covariance better?
Not necessarily. Higher covariance indicates stronger correlation, but for diversification, low or negative covariance is often preferred.