Hi all,
I am a bit confused about the diversification ratio (DR) as it is defined in the Schweser Notes and what I have found in the literature.
Schweser notes defines the DR “as the ratio of the risk of an equally weighted portfolio of n securities to the risk of a single security selected at random from the n securities.
In the literature I have found that DR is “the ratio of the standard deviation of a equally weighted portfolio of n securities to the standard deviation of the portfolio”.
The problem is that I think that these two definition are not coherent because doing a Schweser notes’ mock exam I found out that a lower diversification ratio means that the portfolio is more diversified, but if I take the second definition of the DR mentioned above, a more diversified portfolio is one with the highest DR (because the denominator i.e. standard deviation of the portfolio is smaller than the standard deviation of the equally weighted portfolio of n securities, where it is assumed that the asset have a correlation of 1).
Could anyone help me?
Thank you in advance!
I am a bit confused about the diversification ratio (DR) as it is defined in the Schweser Notes and what I have found in the literature.
Schweser notes defines the DR “as the ratio of the risk of an equally weighted portfolio of n securities to the risk of a single security selected at random from the n securities.
In the literature I have found that DR is “the ratio of the standard deviation of a equally weighted portfolio of n securities to the standard deviation of the portfolio”.
The problem is that I think that these two definition are not coherent because doing a Schweser notes’ mock exam I found out that a lower diversification ratio means that the portfolio is more diversified, but if I take the second definition of the DR mentioned above, a more diversified portfolio is one with the highest DR (because the denominator i.e. standard deviation of the portfolio is smaller than the standard deviation of the equally weighted portfolio of n securities, where it is assumed that the asset have a correlation of 1).
Could anyone help me?
Thank you in advance!