chapter 13 finance

37. Which of the following statements concerning risk are correct? I. Nondiversifiable risk is measured by beta. II. The risk premium increases as diversifiable risk increases. III. Systematic risk is another name for nondiversifiable risk. IV. Diversifiable risks are market risks you cannot avoid.

A. I and III only

44. The systematic risk of the market is measured by:

A. a beta of 1.0.

8. Which one of the following measures the amount of systematic risk present in a particular risky asset relative to the systematic risk present in an average risky asset?

A. beta

28. Unsystematic risk:

A. can be effectively eliminated by portfolio diversification.

11. Which one of the following is the formula that explains the relationship between the expected return on a security and the level of that security's systematic risk?

A. capital asset pricing model

27. Which one of the following is an example of systematic risk?

A. investors panic causing security prices around the globe to fall precipitously

49. The market rate of return is 11 percent and the risk-free rate of return is 3 percent. Lexant stock has 3 percent less systematic risk than the market and has an actual return of 12 percent. This stock:

A. is underpriced.

30. Which one of the following is least apt to reduce the unsystematic risk of a portfolio?

A. reducing the number of stocks held in the portfolio

47. The intercept point of the security market line is the rate of return which corresponds to:

A. the risk-free rate.

16. Standard deviation measures which type of risk?

A. total

43. Which one of the following statements is correct concerning a portfolio beta?

B. A portfolio beta is a weighted average of the betas of the individual securities contained in the portfolio.

31. Which one of the following statements is correct concerning unsystematic risk?

B. Eliminating unsystematic risk is the responsibility of the individual investor.

45. At a minimum, which of the following would you need to know to estimate the amount of additional reward you will receive for purchasing a risky asset instead of a risk-free asset? I. asset's standard deviation II. asset's beta III. risk-free rate of return IV. market risk premium

B. II and IV only

56. According to CAPM, the amount of reward an investor receives for bearing the risk of an individual security depends upon the:

B. market risk premium and the amount of systematic risk inherent in the security.

20. If a stock portfolio is well diversified, then the portfolio variance:

B. may be less than the variance of the least risky stock in the portfolio.

2. Suzie owns five different bonds valued at $36,000 and twelve different stocks valued at $82,500 total. Which one of the following terms most applies to Suzie's investments?

B. portfolio

3. Steve has invested in twelve different stocks that have a combined value today of $121,300. Fifteen percent of that total is invested in Wise Man Foods. The 15 percent is a measure of which one of the following?

B. portfolio weight

53. The excess return earned by an asset that has a beta of 1.34 over that earned by a risk-free asset is referred to as the:

B. risk premium.

15. The expected risk premium on a stock is equal to the expected return on the stock minus the:

B. risk-free rate.

57. Which one of the following should earn the most risk premium based on CAPM?

B. stock with a beta of 1.38

7. The _____ tells us that the expected return on a risky asset depends only on that asset's nondiversifiable risk.

B. systematic risk principle

40. How many diverse securities are required to eliminate the majority of the diversifiable risk from a portfolio?

C. 25

55. The capital asset pricing model (CAPM) assumes which of the following? I. a risk-free asset has no systematic risk. II. beta is a reliable estimate of total risk. III. the reward-to-risk ratio is constant. IV. the market rate of return can be approximated.

C. I, III, and IV only

32. Which one of the following statements related to risk is correct?

C. The systematic risk of a portfolio can be effectively lowered by adding T-bills to the portfolio.

24. Which one of the following events would be included in the expected return on Sussex stock?

C. This morning, Sussex confirmed that its CEO is retiring at the end of the year as was anticipated.

48. A stock with an actual return that lies above the security market line has:

C. a higher return than expected for the level of risk assumed.

38. The primary purpose of portfolio diversification is to:

C. eliminate asset-specific risk.

42. Which one of the following is most directly affected by the level of systematic risk in a security?

C. expected rate of return

1. You own a stock that you think will produce a return of 11 percent in a good economy and 3 percent in a poor economy. Given the probabilities of each state of the economy occurring, you anticipate that your stock will earn 6.5 percent next year. Which one of the following terms applies to this 6.5 percent?

C. expected return

17. The expected rate of return on a stock portfolio is a weighted average where the weights are based on the:

C. market value of the investment in each stock.

50. Which one of the following will be constant for all securities if the market is efficient and securities are priced fairly?

C. reward-to-risk ratio

4. Which one of the following is a risk that applies to most securities?

C. systematic

34. Which of the following are examples of diversifiable risk? I. earthquake damages an entire town II. federal government imposes a $100 fee on all business entities III. employment taxes increase nationally IV. toymakers are required to improve their safety standards

D. I and IV only

35. Which of the following statements are correct concerning diversifiable risks? I. Diversifiable risks can be essentially eliminated by investing in thirty unrelated securities. II. There is no reward for accepting diversifiable risks. III. Diversifiable risks are generally associated with an individual firm or industry. IV. Beta measures diversifiable risk.

D. I, II and III only

19. The expected return on a portfolio: I. can never exceed the expected return of the best performing security in the portfolio. II. must be equal to or greater than the expected return of the worst performing security in the portfolio. III. is independent of the unsystematic risks of the individual securities held in the portfolio. IV. is independent of the allocation of the portfolio amongst individual securities.

D. I, II, and III only

36. Which one of the following is the best example of a diversifiable risk?

D. a firm's sales decrease

14. The expected return on a stock computed using economic probabilities is:

D. a mathematical expectation based on a weighted average and not an actual anticipated outcome.

51. The reward-to-risk ratio for stock A is less than the reward-to-risk ratio of stock B. Stock A has a beta of 0.82 and stock B has a beta of 1.29. This information implies that:

D. either stock A is overpriced or stock B is underpriced or both.

54. The _____ of a security divided by the beta of that security is equal to the slope of the security market line if the security is priced fairly.

D. risk premium

9. Which one of the following is a positively sloped linear function that is created when expected returns are graphed against security betas?

D. security market line

46. Total risk is measured by _____ and systematic risk is measured by _____.

D. standard deviation; beta

52. The market risk premium is computed by:

D. subtracting the risk-free rate of return from the market rate of return.

5. A news flash just appeared that caused about a dozen stocks to suddenly drop in value by about 20 percent. What type of risk does this news flash represent?

D. unsystematic

13. The expected return on a stock given various states of the economy is equal to the:

D. weighted average of the returns for each economic state.

18. The expected return on a portfolio considers which of the following factors? I. percentage of the portfolio invested in each individual security II. projected states of the economy III. the performance of each security given various economic states IV. probability of occurrence for each state of the economy

E. I, II, III, and IV

25. Which one of the following statements is correct?

E. Over time, the average unexpected return will be zero.

26. Which one of the following statements related to unexpected returns is correct?

E. Unexpected returns can be either positive or negative in the short term but tend to be zero over the long-term.

39. Which one of the following indicates a portfolio is being effectively diversified?

E. a decrease in the portfolio standard deviation

21. The standard deviation of a portfolio:

E. can be less than the standard deviation of the least risky security in the portfolio.

22. The standard deviation of a portfolio:

E. can be less than the weighted average of the standard deviations of the individual securities held in that portfolio.

29. Which one of the following is an example of unsystematic risk?

E. consumer spending on entertainment decreased nationally

12. Treynor Industries is investing in a new project. The minimum rate of return the firm requires on this project is referred to as the:

E. cost of capital.

10. Which one of the following is represented by the slope of the security market line?

E. market risk premium

6. The principle of diversification tells us that:

E. spreading an investment across many diverse assets will eliminate some of the total risk.

23. Which one of the following statements is correct concerning a portfolio of 20 securities with multiple states of the economy when both the securities and the economic states have unequal weights?

E. Given both the unequal weights of the securities and the economic states, an investor might be able to create a portfolio that has an expected standard deviation of zero.

33. Which one of the following risks is irrelevant to a well-diversified investor?

B. unsystematic risk

41. Systematic risk is measured by:

B. beta.