I came across a question in the CFAI question bank that has been boggling my mind for days now.
Essentially, one had to pick two assets for a two asset portfolio. Given was a correlation matrix with 4 assets. Now I picked the assets with a correlation of 0… which turned out wrong. Correct was -1.
Now, according to MPT, wouldn’t one search for the least correlated assets possible? At -1, they would be strongly correlated (obviously negatively)… the Portfolio would become absolutely risk free and only earn the risk free rate… so you may as well not bother. Instead, you would want corr = 0 for a maximum of diversification.
What am I missing?
Thanks in advance!