Investments Exam 2

Efficient Portfolio

one with the highest expected return for a given level of risk

A portfolio with a 30% standard deviation generated a return of 15% last year when T-bills were paying 6.0%. This portfolio had a Sharpe ratio of ____. .60 .45 .30 .15

.30

Asset A has an expected return of 35% and a standard deviation of 40%. The risk-free rate is 17%. What is the reward-to-variability ratio? .45 .62 .60 .65

.45

You invest $1,100 in security A with a beta of 1.1 and $900 in security B with a beta of .4. The beta of this portfolio is _________. 0.44 1.13 0.79 1.50

.79

You have a $53,000 portfolio consisting of Intel, GE, and Con Edison. You put $21,200 in Intel, $13,200 in GE, and the rest in Con Edison. Intel, GE, and Con Edison have betas of 1.3, 1, and .8, respectively. What is your portfolio beta? 1.050 0.995 0.808 1.365

1.050

You have the following rates of return for a risky portfolio for several recent years. Assume that the stock pays no dividends. Year Beg Yr Pr #shrsbght 2008 $95 240bought 2009 $100 190bought 2010 $96 215 sold 2011 $99 215 sold ________________________________________ What is the geometric average return for the period? 2.77% 1.04% 1.38% 2.08%

1.38%

You put up $55 at the beginning of the year for an investment. The value of the investment grows 6% and you earn a dividend of $5.50. Your HPR was ____. 6.0% 5.5% 10.0% 16.0%

16%

Stock A has a beta of 1.2, and stock B has a beta of 1. The returns of stock A are ______ sensitive to changes in the market than are the returns of stock B. 20% more slightly more 20% less slightly less

20% more

The arithmetic average of -27%, 47%, and 52% is ________. 42.00% 24.00% 33.00% 18.00%

24.00%

Consider the CAPM. The risk-free rate is 6%, and the expected return on the market is 16%. What is the expected return on a stock with a beta of 1.9? 36% 35.8% 11.3% 25.0%

25.0%

If the nominal rate of return on investment is 6% and inflation is 2% over a holding period, what is the real rate of return on this investment? 3.92% 4% 4.12% 6%

3.92%

Which of the following are nondiversifiable risks? Business risk Management risk Company or industry risk Market risk Interest rate risk Purchasing power risk 4, 5, and 6 1, 2, and 3 5, 6, and 2 1, 3, and 4 1, 4, and 6

4, 5, and 6

You purchased a share of stock for $25. One year later you received $2.30 as dividend and sold the share for $24. Your holding-period return was _________. -5.42% -9.20% 5.20% 9.58%

5.20%

The geometric average of −15%, 20%, and 25% is _________. 7.50% 10.00% 8.44% 19.93%

8.44%

Mutual fund XYZ has a 5-year return of 12%, with a standard deviation of 15%. Fund XYZ has a beta of 1.4, with a correlation of 0.90 to the S&P 500. What percent of the return from XYZ is due to the S&P 500? 90% 81% 19% 10%

81% Correlation = 0.90, there r-squared = .81. 81% of the return is due to the market and 19% is due to unsystematic risk.

Your investment has a 20% chance of earning a 30% rate of return, a 50% chance of earning a 10% rate of return, and a 30% chance of losing 6%. What is your expected return on this investment? 12.8% 11% 8.9% 9.2%

9.2%

EAR equation

=((1+APR/n)^n)-1

Treynor Ratio

=(Ri-Rf)/Bi Ri= Portfolio's return Rf= Risk free rate Bi= Portfolio's beta

Sharpe Ratio

=(Rp-Rf)/Op Rp= Expected portfolio/asset return Rf= risk free rate of return Op= portfolio/assets standard deviation

information ratio

=(Rp-Ri)/Op Rp= annualized return of an investment or portfolio Ri= annualized return of an index Op= standard deviation of excess returns Excess Return= Rp-Ri

CAPM

=Rf+b(Rm-Rf) Rf=risk free rate Rm= expected return of the overall market b= the stock's beta

Jensen's Alpha equation

=Ri-[Rf+Bim(Rm-Rf)] Ri= portfolio return Rf= risk free rate of return Bim= portfolio beta Rm= market return += more return than risk -= less return than risk 0= equal return to risk

APR equation

APR = ((EAR+1)^(1/n)-1)*n n= compounding period

"ABCDEFG" Unsystematic Risk

Accounting Risk Business Risk Country Risk Default Risk Executive Risk Financial Risk Government Risk

WHICH OF THE FOLLOWING IS A FUNDAMENTAL ANALYST UNLIKELY TO BE USING? FINANCIAL STATEMENTS BAR CHART 10K REPORTS EXECUTIVE INTERVIEWS

Bar Chart

Some diversification benefits can be achieved by combining securities in a portfolio as long as the correlation between the securities is _____________. 1 greater than 1 between 0 and 1 less than or equal to 0

Between 0 and 1

Craig is evaluating two mutual funds that are not well-diversified. How would you recommend that Craig evaluate the funds on a risk-adjusted basis? Calculate the Treynor ratio and select the fund with the highest Treynor Calculate the Sharpe ratio and select the fund with the highest Sharpe Calculate the Treynor and select the fund with the lowest Treynor. Calculate the Sharpe and select the fund with the lowest Sharpe

Calculate the Sharpe ratio and select the fund with the highest Sharpe (Use standard deviation with nondiversified portfolios. Use beta for well-diversified portfolios.)

John is considering the two mutual funds below, but is uncertain which performed better over the past year. Growth Fund has a beta of 1.2 relative to the market. The risk-free rate was 3%. Which fund would you recommend based on the Treynor Ratio? Growth Fund: Actual Return 12% Index Fund: Actual Return 9% Growth Fund Index Fund Growth and Index Fund have the same risk-adjusted returns None of the above

Growth Fund Growth Fund has a higher Treynor Ratio. Growth = (0.12 - 0.03) / 1.2 = 0.075 Index = (0.09 - 0.03) / 1 = 0.06

HPR Formula

HPR= (Ps-Pb+Div)/Pb Ps=sale price Pb=buy price Div= cash dividend

Jensen's Alpha

Measure the excess return provided by a fund manager, relative to a benchmark Absolute measure "it tells you something" the higher, the better the performance

"Prime" Systematic Risks

Purchasing power risk Reinvestment risk Interest rate risk Market risk Exchange Rate risk

Risk Premium

Rm-Rf (Market risk)-(risk free rate of return)

The expected return on the market portfolio is 19%. The risk-free rate is 11%. The expected return on SDA Corp. common stock is 18%. The beta of SDA Corp. common stock is 1.10. Within the context of the capital asset pricing model, _________. SDA Stock is underpriced SDA stock is fairly priced SDA Corp. stock's alpha is -1.80% SDA stock's alpha is 1.8%

SDA Corp. stock's alpha is -1.80%

Sharpe Ratio

Sp=[Portfolio Risk Premium/Standard Deviation of Excess Returns] * [((E)*(Rp))-rf)/Op] E=expected return of the portfolio Rf= risk free rate of return Op= standard deviation of portfolio excess return

Donna's mutual fund returned 19% last year, with a beta of 2. The risk-free rate of return with 3%, the market return was 8%. The standard deviation is 18%. What would you tell Donna regarding the performance of her mutual fund? Standard deviation is too high; therefore Donna was undercompensated for her risk. The Sharpe Ratio is 1, which means Donna earned an adequate risk-adjusted return. The Sharpe Ratio is 1, which means Donna earned a return less than was required on a risk-adjusted basis. The market outperformed the mutual fund on a risk-adjusted basis. The alpha is 6%, which means the fund manager returned a higher rate of return than was expected on a risk-adjusted basis.

The alpha is 6%, which means the fund manager returned a higher rate of return than was expected on a risk-adjusted basis. (Standard deviation measures volatility and is not a risk-adjusted performance measure on its own. Sharpe needs to be compared to another Sharpe to be meaningful. Alpha is calculation is correct. )

The weak form of the EMH states that ________ must be reflected in the current stock price. all past information, including security price and volume data all publicly available information all information, including inside information all costless information

all past information, including security price and volume data

The semistrong form of the EMH states that ________ must be reflected in the current stock price. all security price and volume data all publicly available information all information, including inside information all costless information

all publicly available informaiton

Active management

assumes market inefficiency

Diversification benefits (risk is reduced)

begin any time the correlation is less than 1

Which of the following is not a method employed by followers of technical analysis? charting relative strength analysis earnings forecasting trading around support and resistance levels

earnings forecasting

Information Ratio

measures the excess return provided by a fund manager, relative to a benchmark the higher the better

The primary objective of fundamental analysis is to identify __________. well-run firms poorly run firms mispriced stocks high P/E stocks

mispriced stocks

Diversification is most effective when security returns are _________. high negatively correlated positively correlated uncorrelated

negatively correlated

MPT shows a correlation between

nondiversifiable risk and investment return

WHICH OF THE FOLLOWING FORMS OF THE EFFICIENT MARKET HYPOTHESIS SUPPORTS TECHNICAL ANALYSIS? STRONG SEMI-STRONG WEAK ALL OF THE ABOVE NONE OF THE ABOVE

none of the above

Efficient market

one in which information is rapidly disseminated and reflected in prices

Which of the following is not a method employed by fundamental analysts? analyzing the Fed's next interest rate move relative strength analysis earnings forecasting estimating the economic growth rate

relative strength analysis

The term random walk is used in investments to refer to ______________. stock price changes that are random but predictable stock prices that respond slowly to both old and new information stock price changes that are random and unpredictable stock prices changes that follow the pattern of past price changes

stock price changes that are random and unpredictable

Semi-Strong EMH

stock prices reflect all information publicly available, rejects historical information and fundamental analysis,

Historically, the best asset for the long-term investor wanting to fend off the threats of inflation and taxes while making his money grow has been ____. stocks bonds money market funds Treasury bills

stocks

If you believe in the __________ form of the EMH, you believe that stock prices reflect all relevant information, including information that is available only to insiders. semistrong strong weak perfect

strong

IF AN INVESTOR IS A PROPONENT OF INDEX FUNDS, WHICH OF THE FOLLOWING FORMS OF THE EFFICIENT MARKET HYPOTHESIS IS THE INVESTOR ALLOCATING? STRONG SEMI-STRONG WEAK ALL OF THE ABOVE NONE OF THE ABOVE

strong IF AN INVESTOR IS A PROPONENT OF INDEX FUNDS, WHICH OF THE FOLLOWING FORMS OF THE EFFICIENT MARKET HYPOTHESIS IS THE INVESTOR ALLOCATING? STRONG SEMI-STRONG WEAK ALL OF THE ABOVE NONE OF THE ABOVE

Strong From EMH

the assertion that stock prices reflect all relevant information, including inside information

The term excess return refers to ______________. returns earned illegally by means of insider trading the difference between the rate of return earned and the risk-free rate the difference between the rate of return earned on a particular security and the rate of return earned on other securities of equivalent risk the portion of the return on a security that represents tax liability and therefore cannot be reinvested

the difference between the rate of return earned and the risk-free rate

Reward

the difference between the risk-free rate and the expected return

Effective Annual Rate (EAR)

the interest rate expressed as if it were compounded once per year

Efficient Market Hypothesis

the notion that stocks already reflect all available information - investors cannot consistently achieve above-average returns - stock prices follow a "random walk" -belief in a passive investment strategy

Suppose that a stock portfolio and a bond portfolio have a zero correlation. This means that ______. the returns on the stock and bond portfolios tend to move inversely the returns on the stock and bond portfolios tend to vary independently of each other the returns on the stock and bond portfolios tend to move together the covariance of the stock and bond portfolios will be positive

the returns on the stock and bond portfolios tend to vary independently of eachother

Correlation

the statistical measure of the relationship, if any, between two series of numbers

Variance

the uncertainty about the distributions of returns

Systematic

undiversifiable, market risk, economy-based

Capital Asset Pricing Model (CAPM)

uses beta to estimate return attempts to explain behavior of security prices

Which of the following correlation coefficients will produce the least diversification benefit? -.6 -.3 0 .8

.8

The Efficient Frontier

"Attainable or feasible set" if we were to create all possible portfolios and calculate return and risk of each, and plot each risk-return combination an efficient portfolio is one that provides the highest return for a given level of risk all portfolios on the efficient frontier are preferable to all other portfolios in the attainable set is a boundary

To construct a riskless portfolio using two risky stocks, one would need to find two stocks with a correlation coefficient of ________. -0.5 0.0 0.5 -1.0

-1.0

Annual Percentage Rate (APR)

Cost of borrowing money on an annual basis; takes into account the interest rate and other related fees on a loan. =per-period rate x periods per year

YOUR CLIENT HAS ASKED YOU ABOUT STRUCTURING A PASSIVE EQUITY PORTFOLIO STRATEGY. WHICH OF THE FOLLOWING WOULD YOU NOT RECOMMEND? BENCHMARK PORTFOLIO EXCHANGE TRADED FUND EQUITY INDEX MUTUAL FUND MARKET TIMING

Market Timing

Proponents of the EMH typically advocate __________. a conservative investment strategy a liberal investment strategy a passive investment strategy an aggressive investment strategy

a passive investment strategy

Excess returns

a reasonable forecast of an asset's risk premium is the average of its historical excess returns

A technical analyst is most likely to be affiliated with which investment philosophy? active management buy and hold passive investment index funds

active management

The strong form of the EMH states that ________ must be reflected in the current stock price. all security price and volume data all publicly available information all information, including inside information all costless information

all information, including inside information

Passive managment

buying a well-diversified portfolio without attempting to find mispriced securities index fund

R-Squared

calculate by squaring the correlation coefficient if it is greater than .70, then Beta is an appropriate measure of total risk

Fundamental Analysis

conducting ratio analysis on balance sheet & income statement believe stock price is driven by financial performance of a firm look to determine future financial performance and a forecasted stock price based upon future financial performance

Unsystematic

diversifiable, unique risk, company-specific

Modern Portfolio Theory (MPT)

diversification is achieved by combining securities in a portfolio in such a way that individual securities have negative correlations between each other's rates of return statistical diversification is the deciding factor in choosing securities the efficient frontier & portfolio betas

38. If you want to measure the performance of your investment in a fund, including the timing of your purchases and redemptions, you should calculate the __________. geometric average return arithmetic average return dollar-weighted return index return

dollar-weighted return

A mutual fund that attempts to hold quantities of shares in proportion to their representation in the market is called an __________ fund. stock index hedge money market

index

One type of passive portfolio management is ________. investing in a well-diversified portfolio without attempting to search out mispriced securities investing in a well-diversified portfolio while only seeking out passively mispriced securities investing an equal dollar amount in index stocks investing in an equal amount of shares in each of the index stocks

investing in a well-diversified portfolio without attempting to search out mispriced securities

Correlation coefficient

is by which the degree of correlation is measured

Risk Aversion

is how people define "reward' and their subsequent allocation to stocks/risky assets

Diversifiable risk

is unsystematic risk

Probability distribution

list of outcomes for each scenario

The efficient frontier represents a set of portfolios that maximize expected return for a given level of risk. minimize expected return for a given level of risk. maximize risk for a given level of return. None of the options.

maximize expected return for a given level of risk

Beta

measure of nondiversifiable risk, or market risk is 1 for the market

Standard Deviation

measure risk and variability of returns, higher= higher riskiness, can be used to determine total risk of an undiversified portfolio

Treynor Ratio

measures how much return was achieved for each unit of risk relative- compare Treynor against another the higher the better uses beta

Sharpe Ratio

measures the excess return provided by a fund manager, relative to a benchmark relative- compare Sharpe against another the higher the better

Technical Analysis

process of charting and plotting a stock's trading volume and price movements analysis will predict the future direction of prices long before financial performance will supply and demand drive a stock price

Real rate of return

r=(nominal rate-inflation rate)/(1+inflation rate)

Weak EMH

rejects historical information and technical analysis; fundamental analysis can help

Choosing stocks by searching for predictable patterns in stock prices is called ________. fundamental analysis technical analysis index management random-walk investing

technical analysis

The semistrong-form of the efficient market hypothesis implies that ____________ generate abnormal returns and ____________ generate abnormal returns. technical analysis cannot; fundamental analysis can technical analysis can; fundamental analysis can technical analysis can; fundamental analysis cannot technical analysis cannot; fundamental analysis cannot

technical analysis cannot; fundamental analysis cannot

Harry Markowitz is best known for his Nobel Prize-winning work on _____________. strategies for active securities trading techniques used to identify efficient portfolios of risky assets techniques used to measure the systematic risk of securities techniques used in valuing securities options

techniques used to identify efficient portfolios of risky assets

Random price movements indicate ________. irrational markets that prices cannot equal fundamental values that technical analysis to uncover trends can be quite useful that markets are functioning efficiently

that markets are functioning efficiently

Expected return

the mean return of the various distributions

Adding additional risky assets to the investment opportunity set will generally move the efficient frontier _____ and to the ______. up; right up; left down; right down; left

up; left