Bridge over ocean
1 May 1992 Financial Analysts Journal Volume 48, Issue 3

Diversification Returns and Asset Contributions

  1. David G. Booth
  2. Eugene F. Fama, PhD

For a portfolio with a constant percentage invested in each asset, the compound return is the sum of the contributions of the individual assets in the portfolio. The portfolio compound return is greater than the weighted average of the compound returns on the assets in the portfolio. The incremental return is due to diversification. The contribution of each asset exceeds its compound return by the amount it adds to the portfolio diversification return.

The compound return on an asset is approximately the asset's average return minus one-half the asset's variance. A portfolio's average return is the weighted average of each asset's average return, but a portfolio's variance is the weighted average of each asset's co-variance. It follows that the return contribution of an asset can be better approximated by subtracting one-half the co-variance than one-half the variance.

Read the Complete Article in Financial Analysts Journal Financial Analysts Journal CFA Institute Member Content

We’re using cookies, but you can turn them off in Privacy Settings.  Otherwise, you are agreeing to our use of cookies.  Accepting cookies does not mean that we are collecting personal data. Learn more in our Privacy Policy.