Covariance

Covariance

A statistical measure of the degree to which random variables move together. A positive covariance implies that one variable is above (below) its mean value when the other variable is above (below) its mean value.

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covariance

A statistical measure of the extent to which two variables move together. Covariance is used by financial analysts to determine the degree to which return on two securities is related. In general, a high covariance indicates similar movements and lack of diversification. Compare variance. See also risk.

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Covariance

What Does Covariance Mean?

A measure of the degree by which the returns on two risky assets move in tandem. A positive covariance means that asset returns move together; a negative covariance means the returns move inversely. One method of calculating covariance is by looking at return surprises (deviations from expected return) in each scenario. Another method is to multiply the correlation between the two variables by the standard deviation of each variable.

Investopedia explains Covariance

Financial assets that have a high covariance with each other will not provide very much diversification. For example, if stock A's return is high whenever stock B's return is high or low when B's is also low, these stocks are said to have a positive covariance. An investor seeking diversified earnings should pick financial assets that have low covariance to each other.

Related Terms:
• Correlation
• Diversification
• Efficient Market Hypothesis—EMH
• Modern Portfolio Theory—MPT
• Technical Analysis