Fin 300 Midterm 1

The market value weighted-average beta of all firms included in the market index will always be __________. 0 between 0 and 1 1 none of these options (There is no particular rule concerning the average beta of firms included in the market index.)

1

The part of a stock's return that is systematic is a function of which of the following variables? 1. Volatility in excess returns of the stock market 2. The sensitivity of the stock's returns to changes in the stock market 3. The variance in the stock's returns that is unrelated to the overall stock market 1 only 1 and 2 only 2 and 3 only 1, 2, and 3

1 and 2 only

Which risk can be partially or fully diversified away as additional securities are added to a portfolio? Total risk Systematic risk Firm-specific risk 1 only 1 and 2 only 1, 2, and 3 1 and 3

1 and 3

You invest all of your money in 1-year T-bills. Which of the following statements is (are) correct? 1. Your nominal return on the T-bills is riskless. 2. Your real return on the T-bills is riskless. 3. Your nominal Sharpe ratio is zero. 1 only 1 and 3 only 2 only 1, 2, and 3

1 and 3 only

Debt securities promise: 1. A fixed stream of income. 2. A stream of income that is determined according to a specific formula. 3. A share in the profits of the issuing entity. 1 only 1 or 2 only 1 and 3 only 2 or 3 only

1 or 2 only

Active trading in markets and competition among securities analysts helps ensure that: 1. Security prices approach informational efficiency. 2. Riskier securities are priced to offer higher potential returns. 3. Investors are unlikely to be able to consistently find under- or overvalued securities. Multiple Choice 1 only 1 and 2 only 2 and 3 only 1, 2, and 3

1, 2, and 3

An example of a real asset is: 1. A college education 2. Customer goodwill 3. A patent 1 only2 only 1 and 3 only 1, 2, and 3

1, 2, and 3

Money market securities are characterized by: 1. Maturity less than 1 year 2. Safety of the principal investment 3. Low rates of return 1 only 1 and 2 only 1 and 3 only 1, 2, and 3

1, 2, and 3

Which of the following are financial assets? 1. Debt securities 2. Equity securities 3. Derivative securities 1 only 1 and 2 only 2 and 3 only 1, 2, and 3

1, 2, and 3

You are considering adding a new security to your portfolio. To decide whether you should add the security, you need to know the security's: Expected return Standard deviation Correlation with your portfolio 1 only 1 and 2 only 1 and 3 only 1, 2, and 3

1, 2, and 3

The optimal risky portfolio can be identified by finding: 1. The minimum-variance point on the efficient frontier 2. The maximum-return point on the efficient frontier and the minimum-variance point on the efficient frontier 3. The tangency point of the capital market line and the efficient frontier 4. The line with the steepest slope that connects the risk-free rate to the efficient frontier 1 and 2 only 2 and 3 only 3 and 4 only 1 and 4 only

3 and 4 only

_______ is not a derivative security. A share of common stock A call option A futures contract A put option

A share of common stock

Risk that can be eliminated through diversification is called __________ risk. unique firm-specific diversifiable All of these options are correct.

All of these options are correct.

Financial markets allow for all but which one of the following? Shift consumption through time from higher-income periods to lower. Price securities according to their riskiness. Channel funds from lenders of funds to borrowers of funds. Allow most participants to routinely earn high returns with low risk.

Allow most participants to routinely earn high returns with low risk.

An investment adviser has decided to purchase gold, real estate, stocks, and bonds in equal amounts. This decision reflects which part of the investment process? Asset allocation Investment analysis Portfolio analysis Security selection

Asset allocation

_______ portfolio construction starts with selecting attractively priced securities. Bottom-up Top-down Upside-down Side-to-side

Bottom-up

The CAL provided by combinations of 1-month T-bills and a broad index of common stocks is called the __________. SML CAPM CML total return line

CML

Real assets in the economy include all but which one of the following? Multiple Choice Land Buildings Consumer durables Common stock

Common stock

_______ represents an ownership share in a corporation. A call option Common stock A fixed-income security Preferred stock

Common stock

Which of the following mortgage scenarios will benefit the homeowner the most? Adjustable rate mortgage when interest rate increases. Fixed rate mortgage when interest rates falls. Fixed rate mortgage when interest rate rises. None of these options, as the banker's interest will always be protected.

Fixed rate mortgage when interest rate rises.

Which one of the following measures time-weighted returns and allows for compounding? Geometric average return Arithmetic average return Dollar-weighted return Historical average return

Geometric average return

_______ portfolio management calls for holding diversified portfolios without spending effort or resources attempting to improve investment performance through security analysis. Active Momentum Passive Market-timing

Passive

_______ is (are) real assets. Bonds Production equipment Stocks Life insurance

Production equipment

_______ assets generate net income to the economy, and _______ assets define allocation of income among investors. Financial; financial Financial; real Real; financial Real; real

Real; financial

The formula E(rP) − rfσP�(��) - ���� is used to calculate the __________. Sharpe ratio Treynor measure coefficient of variation real rate of return

Sharpe ratio

Which of the following provides the best example of a systematic-risk event? A strike by union workers hurts a firm's quarterly earnings. Mad Cow disease in Montana hurts local ranchers and buyers of beef. The Federal Reserve increases interest rates 50 basis points. A senior executive at a firm embezzles $10 million and escapes to South America.

The Federal Reserve increases interest rates 50 basis points.

_______ portfolio construction starts with asset allocation. Bottom-up Top-down Upside-down Side-to-side

Top-down

Which one of the following best describes the purpose of derivatives markets? Transferring risk from one party to another. Investing for a short time period to earn a small rate of return. Investing for retirement Earning interest income

Transferring risk from one party to another.

The rate of return on __________ is known at the beginning of the holding period, while the rate of return on __________ is not known until the end of the holding period. risky assets; Treasury bills Treasury bills; risky assets excess returns; risky assets index assets; bonds

Treasury bills; risky assets

Which one of the following would be considered a risk-free asset in real terms as opposed to nominal? Money market fund U.S. T-bill Short-term corporate bonds U.S. T-bill whose return was indexed to inflation

U.S. T-bill whose return was indexed to inflation

Which of the following statistics cannot be negative? Covariance Variance E(r) Correlation coefficient

Variance

Investing in two assets with a correlation coefficient of 1 will reduce which kind of risk? Multiple Choice Market risk Unique risk Unsystematic risk With a correlation of 1, no risk will be reduced.

With a correlation of 1, no risk will be reduced.

An example of a derivative security is _______. a common share of General Motors a call option on Intel stock a Ford bonda U.S. Treasury bond

a call option on Intel stock

Stone Harbor Products takes out a bank loan. It receives $100,000 and signs a promissory note to pay back the loan over 5 years. In this transaction, _______. a new financial asset was created a financial asset was traded for a real asset a financial asset was destroyed a real asset was created

a new financial asset was created

In a perfectly efficient market the best investment strategy is probably _______. an active strategy a passive strategy asset allocation market timing

a passive strategy

The __________ measure of returns ignores compounding. geometric average arithmetic average IRR dollar-weighted

arithmetic average

You have calculated the historical dollar-weighted return, annual geometric average return, and annual arithmetic average return. If you desire to forecast performance for next year, the best forecast will be given by the __________. dollar-weighted return geometric average return arithmetic average return index return

arithmetic average return

After considering current market conditions, an investor decides to place 60% of her funds in equities and the rest in bonds. This is an example of _______. asset allocation security analysis top-down portfolio management passive management

asset allocation

The __________ decision should take precedence over the __________ decision. asset allocation; security selection bond selection; mutual fund selection stock selection; asset allocation stock selection; mutual fund selection

asset allocation; security selection

Real assets are _______. assets used to produce goods and services always the same as financial assets always equal to liabilities claims on a company's income

assets used to produce goods and services

One method of forecasting the risk premium is to use the __________. coefficient of variation of analysts' earnings forecasts variations in the risk-free rate over time average historical excess returns for the asset under consideration average abnormal return on the index portfolio

average historical excess returns for the asset under consideration

If you want to know the portfolio standard deviation for a three-stock portfolio, you will have to __________. calculate two covariances and one trivariance calculate only two covariances calculate three covariances average the variances of the individual stocks

calculate three covariances

A _______ gives its holder the right to buy an asset for a specified exercise price on or before a specified expiration date. call option futures contract put option interest rate swap

call option

In the mean standard deviation graph, the line that connects the risk-free rate and the optimal risky portfolio, P, is called the __________. capital allocation line indifference curve investor's utility line security market line

capital allocation line

Security selection refers to the _______. allocation of the investment portfolio across broad asset classes analysis of the broad asset classes choice of specific securities within each asset class top-down method of investing

choice of specific securities within each asset class

Security selection refers to _______. choosing specific securities within each asset class deciding how much to invest in each asset class deciding how much to invest in the market portfolio versus the riskless asset deciding how much to hedge

choosing specific securities within each asset class

Which of the following is not a money market security? Multiple Choice U.S. Treasury bill 6-month maturity certificate of deposit common stock mortgage backed security

common stock

The _________ is the covariance divided by the product of the standard deviations of the returns on each fund. covariance correlation coefficient standard deviation reward-to-variability ratio

correlation coefficient

The value of a derivative security _______. depends on the value of another related security affects the value of a related security is unrelated to the value of a related security can be integrated only by calculus professors

depends on the value of another related security

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

Consider an investment opportunity set formed with two securities that are perfectly negatively correlated. The global minimum-variance portfolio has a standard deviation that is always __________. equal to the sum of the securities' standard deviations equal to −1 equal to 0 greater than 0

equal to 0

a market economy, capital resources are primarily allocated by _______. governments corporation CEOs financial markets investment bankers

financial markets

The risk that can be diversified away is __________. beta firm-specific risk market risk systematic risk

firm-specific risk

In securities markets, there should be a risk-return trade-off with higher-risk assets having _______ expected returns than lower-risk assets. higher lower the same The answer cannot be determined from the information given.

higher

The __________ reward-to-variability ratio is found on the __________ capital market line. lowest; steepest highest; flattest highest; steepest lowest; flattest

highest; steepest

According to Tobin's separation property, portfolio choice can be separated into two independent tasks consisting of __________ and __________. identifying all investor imposed constraints; identifying the set of securities that conform to the investor's constraints and offer the best risk-return trade-offs identifying the investor's degree of risk aversion; choosing securities from industry groups that are consistent with the investor's risk profile identifying the optimal risky portfolio; constructing a complete portfolio from T-bills and the optimal risky portfolio based on the investor's degree of risk aversion choosing which risky assets an investor prefers according to the investor's risk-aversion level; minimizing the CAL by lending at the risk-free rate

identifying the optimal risky portfolio; constructing a complete portfolio from T-bills and the optimal risky portfolio based on the investor's degree of risk aversion

Decreasing the number of stocks in a portfolio from 50 to 10 would likely __________. increase the systematic risk of the portfolio increase the unsystematic risk of the portfolio increase the return of the portfolio decrease the variation in returns the investor faces in any one year

increase the unsystematic risk of the portfolio

Another name for the dollar-weighted return is the __________. difference between cash inflows and cash outflows arithmetic average return geometric average return internal rate of return

internal rate of return

A security's beta coefficient will be negative if __________. its returns are negatively correlated with market-index returns its returns are positively correlated with market-index returns its stock price has historically been very stable market demand for the firm's shares is very low

its returns are negatively correlated with market-index returns

On a standard expected return versus standard deviation graph, investors will prefer portfolios that lie __________ the current investment opportunity set. left and above left and below right and above right and below

left and above

Some diversification benefits can be achieved by combining securities in a portfolio as long as the correlation between the securities is __________. 1 less than 1 between 0 and 1 (and therefore not negative) less than or equal to 0 (and therefore not positive)

less than 1

Beta is a measure of security responsiveness to __________. firm-specific risk diversifiable risk market risk unique risk

market risk

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 are correct.

maximize expected return for a given level of risk.

The normal distribution is completely described by its __________. mean and standard deviation mean mode and standard deviation median and variance

mean and standard deviation

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

negatively correlated

Diversification can reduce or eliminate __________ risk. all systematic nonsystematic only insignificant

nonsystematic

Market signals will help to allocate capital efficiently only if investors are acting _______. on the basis of their individual hunches as directed by financial experts as dominant forces in the economy on accurate information

on accurate information

An investor's degree of risk aversion will determine their __________. optimal risky portfolio risk-free rate optimal mix of the risk-free asset and risky asset capital allocation line

optimal mix of the risk-free asset and risky asset

The efficient market hypothesis suggests that _______. active portfolio management strategies are the most appropriate investment strategies passive portfolio management strategies are the most appropriate investment strategies either active or passive strategies may be appropriate, depending on the expected direction of the market a bottom-up approach is the most appropriate investment strategy

passive portfolio management strategies are the most appropriate investment strategies

Suppose an investor is considering one of two investments that are identical in all respects except for risk. If the investor anticipates a fair return for the risk of the security he invests in, he can expect to _______. earn no more than the Treasury-bill rate on either security pay less for the security that has higher risk pay less for the security that has lower risk earn more if interest rates are lower

pay less for the security that has higher risk

The material wealth of society is determined by the economy's _______, which is a function of the economy's _______. Multiple Choice investment bankers; financial assets investment bankers; real assets productive capacity; financial assets productive capacity; real assets

productive capacity; real assets

A _______ gives its holder the right to sell an asset for a specified exercise price on or before a specified expiration date. call option futures contract put option interest rate swap

put option

The excess return is the __________. rate of return that can be earned with certainty rate of return in excess of the Treasury-bill rate rate of return in excess of a predicted model like CAPM index return

rate of return in excess of the Treasury-bill rate

Both investors and gamblers take on risk. The difference between an investor and a gambler is that an investor __________. is normally risk neutral requires a risk premium to take on the risk knows he or she will not lose money knows the outcomes at the beginning of the holding period

requires a risk premium to take on the risk

Ownership of a call option entitles the owner to the _______ to _______ a specific stock, on or before a specific date, at a specific price. right; buy right; sell obligation; buy obligation; sell

right; buy

Ownership of a put option entitles the owner to the _______ to _______ a specific stock, on or before a specific date, at a specific price. right; buy right; sell obligation; buy obligation; sell

right; sell

When the market is more optimistic about a firm, its share price will _______; as a result, it will need to issue _______ shares to raise funds that are needed. rise; fewer fall; fewer rise; more fall; more

rise; fewer

After much investigation, an investor finds that Intel stock is currently underpriced. This is an example of _______. asset allocation security analysis top-down portfolio management passive management

security analysis

A measure of the riskiness of an asset held in isolation is __________. beta standard deviation covariance alpha

standard deviation

If an investor does not diversify his portfolio and instead puts all of his money in one stock, the appropriate measure of security risk for that investor is the __________. stock's standard deviation variance of the market stock's beta covariance with the market index

stock's standard deviation

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

A portfolio of stocks fluctuates when the Treasury yields change. Since this risk cannot be eliminated through diversification, it is called __________. firm-specific risk systematic risk unique risk None of the options are correct.

systematic risk

Market risk is also called __________ and __________. systematic risk; diversifiable risk systematic risk; nondiversifiable risk unique risk; nondiversifiable risk unique risk; diversifiable risk

systematic risk; nondiversifiable risk

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 assetsSuppose that a stock portfolio and a bond portfolio have a zero correlation. This means that __________.

Asset allocation refers to _______. the allocation of the investment portfolio across broad asset classes the analysis of the value of securities the choice of specific assets within each asset class None of the choices are correct.

the allocation of the investment portfolio across broad asset classes

The holding period return on a stock is equal to __________. the capital gain yield over the period plus the inflation rate the capital gain yield over the period plus the dividend yield the current yield plus the dividend yield the dividend yield plus the risk premium

the capital gain yield over the period plus the dividend yield

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

The market risk premium is best approximated by __________. the difference between the return on an index fund and the return on Treasury bills the difference between the return on a small-firm mutual fund and the return on the Standard & Poor's 500 Index the difference between the return on the risky asset with the lowest returns and the return on Treasury bills the difference between the return on the highest-yielding asset and the return on the lowest-yielding asset

the difference between the return on an index fund and the return on Treasury bills

The success of common stock investments depends on the success of _______. derivative securities fixed-income securities the firm and its real assets government methods of allocating capital

the firm and its real assets

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 each other

The complete portfolio refers to the investment in __________. the risk-free asset the risky portfolio the risk-free asset and the risky portfolio combined the risky portfolio and the index

the risk-free asset and the risky portfolio combined

The term complete portfolio refers to a portfolio consisting of __________. the risk-free asset combined with at least one risky asset the market portfolio combined with the minimum-variance portfolio securities from domestic markets combined with securities from foreign markets common stocks combined with bonds

the risk-free asset combined with at least one risky asset

The reward-to-volatility ratio is given by __________. the slope of the capital allocation line the second derivative of the capital allocation line the point at which the second derivative of the investor's indifference curve reaches zero the portfolio's excess return

the slope of the capital allocation line

The expected rate of return of a portfolio of risky securities is __________. the sum of the individual securities' covariance the sum of the individual securities' variance the weighted sum of the individual securities' expected returns the weighted sum of the individual securities' variance

the weighted sum of the individual securities' expected returns

The correlation coefficient between two assets equals __________. their covariance divided by the product of their variances the product of their variances divided by their covariance the sum of their expected returns divided by their covariance their covariance divided by the product of their standard deviations

their covariance divided by the product of their standard deviations

Firm-specific risk is also called __________ and __________. systematic risk; diversifiable risk systematic risk; nondiversifiable risk unique risk; nondiversifiable risk unique risk; diversifiable risk

unique risk; diversifiable risk

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

The values of beta coefficients of securities are __________. always positive always negative always between positive 1 and negative 1 usually positive but are not restricted in any particular way

usually positive but are not restricted in any particular way

In a _______ index, changes in the value of the stock with the greatest market value will move the index value the most, everything else equal. value-weighted index equal-weighted index price-weighted index bond price index

value-weighted index

Which of the following is a correct expression concerning the formula for the standard deviation of returns of a two-asset portfolio where the correlation coefficient is positive? Multiple Choice σ2P < w21 × σ21 + w22 × σ22��2 < �12 × �12 + �22 × �22 σ2P = w21 × σ21 + w22 × σ22��2 = �12 × �12 + �22 × �22 σ2P < w21 × σ21 − w22 × σ22��2 < �12 × �12 - �22 × �22 σ2P > w21 × σ21 + w22 × σ22

σ2P > w21 × σ21 + w22 × σ22