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Class 6 - Statistics - SMT1-2019 - 2020 PDF
Class 6 - Statistics - SMT1-2019 - 2020 PDF
CHARACTERISTICS OF A PROBABILITY
DISTRIBUTION
1. The probability of a particular outcome is between
0 and 1 inclusive.
2. The outcomes are mutually exclusive events.
3. The list is exhaustive. So the sum of the probabilities
of the various events is equal to 1.
What is a Probability
Distribution?
Experiment:
Toss a coin three times.
Observe the number of
heads. The possible
results are: Zero heads,
One head,
Two heads, and
Three heads.
What is the probability
distribution for the
number of heads?
Probability Distribution of Number of
Heads Observed in 3 Tosses of a Coin
Introduction to Probability
Distributions
Random Variable
Represents a possible numerical value from
a random event
Random
Variables
Discrete Continuous
Random Variable Random Variable
Random Variables
Random variable
A function that assigns numerical values to the
x 1, x 2, x 3, . . .
Random Variables
EXAMPLES
1. The number of students in a class.
2. The number of children in a family.
3. The number of cars entering a carwash in a hour.
4. Number of home mortgages approved by Coastal Federal
Bank last week.
Discrete Random Variables
Can only assume a countable number of values
Examples:
∑P ( X ≤ x ) =
1i
.50
.25
H H
0 1 2 x
Discrete Probability Distribution
1 6 if x = 1,2,3,4,5,6
P(X )
= x=
0 otherwise
Variance
Standard Deviation
The Mean of a Probability
Distribution
MEAN
•The mean is a typical value used to represent the
central location of a probability distribution.
•The mean of a probability distribution is also
referred to as its expected value.
The Variance and Standard
Deviation of a Probability Distribution
Var ( X ) = ∑ ( xi − µ ) P ( X =
xi )
2
σ =
2
= ∑ i
x 2
P ( =
X x i ) − µ 2
σx = ∑ {x − E(x)} P(x) 2
where:
E(x) = Expected value of the random variable
x = Values of the random variable
P(x) = Probability of the random variable having
the value of x
Example : The Mean of a
Probability Distribution
Expected Value of a discrete distribution
(Weighted Average)
σx = ∑ {x − E(x)} P(x) 2
σ = σ 2 = 1.290 = 1.136
Two Discrete Random Variables
Expected value of the sum of two discrete
random variables:
where:
xi = possible values of the x discrete random variable
yj = possible values of the y discrete random variable
P(xi ,yj) = joint probability of the values of xi and yj occurring
Interpreting Covariance
σxy
ρ=
σx σy
where:
ρ = correlation coefficient (“rho”)
σxy = covariance between x and y
σx = standard deviation of variable x
σy = standard deviation of variable y
Interpreting the
Correlation Coefficient
The Correlation Coefficient always falls
between -1 and +1
ρ=0 x and y are not linearly related.
The farther ρ is from zero, the stronger the linear
relationship:
E(X)
= ∑
= x P(X
i xi )
= $2,000 × 0.20 + $1,000 × 0.50 + $500 × 0.30
= $1,050
where
wA and wB are the portfolio weights
wA + wB = 1
E(RA) and E(RB) are the expected returns on assets
A and B, respectively.
Portfolio Returns
Expected return, variance, and standard deviation
of portfolio returns.
Using the covariance or the correlation coefficient of the
two returns, the portfolio variance of return is:
Var ( Rp ) = w A 2σ A 2 + w B 2σ B 2 + 2w Aw B ρ ABσ Aσ B
where σ2A and σ2B are the variances of the returns for
Asset A and Asset B, respectively,
σAB is the covariance between the returns for
Assets A and B
ρAB is the correlation coefficient between the returns
for Asset A and Asset B.
Portfolio Returns
Example: Consider an investment portfolio of
$40,000 in Stock A and $60,000 in Stock B.
Given the following information, calculate the expected
return of this portfolio.
.
Portfolio Returns
Solution:
Portfolio Returns
Example: Consider an investment portfolio of
$40,000 in Stock A and $60,000 in Stock B.
Discrete Continuous
Probability Probability
Distributions Distributions
Binomial Normal
Poisson Uniform
Hypergeometric Exponential
Discrete Probability Distributions
A discrete random variable is a variable that can
assume only a countable number of values
Many possible outcomes:
number of complaints per day
number of TV’s in a household
number of rings before the phone is answered
Only two possible outcomes:
gender: male or female
defective: yes or no
spreads peanut butter first vs. spreads jelly first
Continuous Probability Distributions
Discrete
Probability
Distributions
Binomial
Poisson
Hypergeometric
Binomial Probability Experiment
x ! ( n − x )!
pxq n−x
for x 0,1,2,
= , n. By definition, 0! 1.
Binomial Distribution Formula
n! x n−x
P(x) = p q
x ! (n − x )!
P(X) n = 5 p = 0.5
.6
.4
Here, n = 5 and p = .5 .2
0 X
0 1 2 3 4 5
Binomial Distribution
Characteristics
Mean
μ = E(x) = np
Variance and Standard Deviation
2
σ = npq
σ = npq
Where n = sample size
p = probability of success
q = (1 – p) = probability of failure
Binomial Distribution Characteristics
Examples:
n = 10, p = .35, x = 3: P(x = 3|n =10, p = .35) = .2522
n = 10, p = .75, x = 2: P(x = 2|n =10, p = .75) = .0004
Binomial Probability - Example