Chapter 12/13 Quiz

Christina purchased 500 shares of stock at a price of $62.30 a share and sold the shares for $64.25 each. She also received $738 in dividends. If the inflation rate was 3.9 percent, what was her exact real rate of return on this investment?

1.54 percent Explanation Nominal return = [$64.25 − 62.30 + ($738/500)]/$62.30 Nominal return = .0550, or 5.50% Exact real return = 1.0550/1.039 − 1 Exact real return = .0154, or 1.54%

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

A firm's sales decrease

Assume you invest in a portfolio of long-term corporate bonds. Based on the period 1926-2016, what average annual rate of return should you expect to earn?

Between 6 and 7 percent

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

I and IV only

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.

I, III, and IV only

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

Investors panic causing security prices around the globe to fall precipitously

Which one of the following categories of securities had the highest average annual return for the period 1926-2016?

Small-company stocks

Stacy purchased a stock last year and sold it today for $4 a share more than her purchase price. She received a total of $1.15 per share in dividends. Which one of the following statements is correct in relation to this investment?

The capital gains yield is positive.

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

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

Which one of the following categories of securities had the lowest average risk premium for the period 1926-2016?

U.S. Treasury bills

Which one of the following statements is a correct reflection of the U.S. financial markets for the period 1926-2016?

U.S. Treasury bills had an annual return in excess of 10 percent in three or more years.

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

Unsystematic risk

Systematic risk is measured by:

beta

The systematic risk of the market is measured by a:

beta of 1

The primary purpose of portfolio diversification is to:

eliminate asset-specific risk.

To convince investors to accept greater volatility, you must:

increase the risk premium.

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

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

The excess return is computed as the:

return on a risky security minus the risk-free rate.

The principle of diversification tells us that:

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

Leo purchased a stock for $63.80 a share, received a dividend of $2.68 a share and sold the shares for $59.74 each. During the time he owned the stock, inflation averaged 2.8 percent. What is his approximate real rate of return on this investment?

−4.96 percent Explanation Nominal return = ($59.74 − 63.80 + 2.68)/$63.80 Nominal return = −.0216, or −2.16% Approximate real return = −.0216 − .028 Approximate real return = −.0496, or −4.96%