Equation 3 in the image below is actually the formula to calculate standard deviation for a portfolio with 2 assets.
Rdc = Asset return in domestic currency
Rfc = Asset return in foreign currency
Rfx = Foreign Exchange return
p = correlation
![image]()
I understand that with a risk free foreign asset you would have 0 standard deviation (SD) hence the first (SD Rfc) and last item in the addition (2 * SD Rfc * SD Rfx * correlation) will be 0 which leave with just SD of Rfx.
What I don't understand is why do we have to multiply the total SD with (1 + Rfc) in Equation 4?
Rdc = Asset return in domestic currency
Rfc = Asset return in foreign currency
Rfx = Foreign Exchange return
p = correlation
I understand that with a risk free foreign asset you would have 0 standard deviation (SD) hence the first (SD Rfc) and last item in the addition (2 * SD Rfc * SD Rfx * correlation) will be 0 which leave with just SD of Rfx.
What I don't understand is why do we have to multiply the total SD with (1 + Rfc) in Equation 4?