Answer: 0.01

## Explanation For an equally weighted portfolio with n assets, the portfolio variance formula is: \[ \sigma_p^2 = \frac{1}{n} \bar{\sigma}^2 + \frac{n-1}{n} \bar{\text{Cov}} \] Where: - \( \bar{\sigma}^2 \) = average variance of individual assets = 0.04 - \( \bar{\text{Cov}} \) = average covariance between assets = 0.01 - n = number of assets = 500 Plugging in the values: \[ \sigma_p^2 = \frac{1}{500} \times 0.04 + \frac{500-1}{500} \times 0.01 \] \[ \sigma_p^2 = \frac{0.04}{500} + \frac{499}{500} \times 0.01 \] \[ \sigma_p^2 = 0.00008 + 0.00998 \] \[ \sigma_p^2 = 0.01006 \] This is closest to 0.01. **Key Concept:** As the number of assets in an equally weighted portfolio increases, the portfolio variance approaches the average covariance between assets. This demonstrates the principle of diversification - idiosyncratic risk (individual asset variance) can be diversified away, leaving only systematic risk (covariance risk).

Author: LeetQuiz .