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Definition of 'Omega'

Omega is the last letter of the Greek alphabet. In finance, it is often used to represent the risk of an investment. The higher the omega, the riskier the investment.

Omega is calculated as the ratio of the standard deviation of an investment's returns to the average return. For example, if an investment has a standard deviation of 10% and an average return of 5%, its omega would be 2.

Omega is a useful tool for comparing the risk of different investments. It can also be used to determine how much an investment's return is affected by changes in the market.

Omega is not without its limitations. One limitation is that it does not take into account the correlation between an investment's returns and the returns of other investments. This means that omega can be misleading when comparing investments that are not perfectly correlated.

Another limitation of omega is that it is based on historical data. This means that it cannot predict future returns or risk.

Despite its limitations, omega can be a useful tool for understanding the risk of an investment. It is important to remember, however, that omega is only one factor to consider when making investment decisions.

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