When adding a randomly chosen new stock to an existing portfolio, the higher (or more positive) the degree of correlation between the new stock and stocks already in the portfolio, the less the additional stock will reduce the portfolio's risk.

Question

Quizplus · Accepted Answer

Adding a stock that has a high degree of positive correlation with the existing portfolio does not significantly diversify the portfolio's risk, as the stocks will tend to move in the same direction under the same market conditions. Diversification benefits are maximized when adding stocks with low or negative correlation, as this spreads and reduces overall risk.

When Adding a Randomly Chosen New Stock to an Existing