Chapter 8 Review
The higher the positive correlation between two assets' returns, the greater is the risk reduction from holding them in a portfolio. True or false?
False
Is the following statement true or false? There is a fundamental trade-off between risk and return: to entice investors to take on more risk, you have to provide them with higher expected returns.
True
The coefficient of variation is a better measure of risk if one is comparing assets that have substantially different expected returns, because it shows the amount of risk per unit of expected return. True or false?
True
Betas can be found by plotting stocks' returns on the vertical axis and the returns on an index like the S&P 500 on the horizontal axis, and then calculating the slope of the resulting regression line. This slope is the stock's beta coefficient. The steeper the slope, the larger the beta and the riskier the stock. True or false?
True
If all investors were completely indifferent to risk, i.e., if they had no aversion to risk at all, then the SML would plot as a horizontal line. True or false?
True
If two assets are held in a portfolio, the assets will generally be less risky than if they were held in isolation. True or false?
True
If two assets are perfectly positively correlated, then their returns will move up and down exactly in sync with one another. True or false?
True
In response to concerns about the CAPM's validity, some researchers have developed models that include more explanatory variables than just beta. While these models are promising, the basic CAPM is still the most widely used method for estimating required rates of returns on stocks. True or false?
True
People differ with regard to their willingness to bear risks. However, if two stocks have the same expected rate of return, then most individuals would prefer the less risky to the more risky stock. This is called risk aversion. True or false?
True
Suppose the standard deviation of expected returns for a given corporate project is quite high, and the project's returns are also highly correlated with returns on the firm's other assets. This suggests that the project is quite risky. However, if the project is not perfectly positively correlated with returns on other stocks in the market, then the project's true risk to stockholders might not be very large. True or false?
True
The Security Market Line (SML) shows the relationship between stocks' required rates of return (measured on the vertical axis) and their betas (measured on the horizontal axis). The vertical axis intercept is the required rate of return on a riskless asset, and the required rate of return associated with b = 1.0 is the required rate of return on "the market." The difference between the required rate of return on the market and that on the riskless asset (rM - rRF) is defined as the "market risk premium." The steeper the SML, the larger the market risk premium, and the greater the average investor's aversion to risk. True or false?
True
The probability distribution for a stock would list the stock's set of possible returns and the probability of each return. We could use this data to find both the stock's expected rate of return and the standard deviation of that return, which is one measure of risk. True or false?
True
