Ch. 13 FRL301 Common Final Test Bank
You want your portfolio beta to be 0.95. Currently, your portfolio consists of $4,000 invested in stock A with a beta of 1.47 and $3,000 in stock B with a beta of 0.54. You have another $9,000 to invest and want to divide it between an asset with a beta of 1.74 and a risk-free asset. How much should you invest in the risk-free asset?
$4,574.71 BetaPortfolio = 0.95 = ($4,000/$16,000)(1.47) + ($3,000/$16,000)(0.54) + (x/$16,000)(1.74) + (($9,000 - x)/$16,000)(0); Investment in risk-free asset = $9,000 - $4,425.29 = $4,574.71
You have a $12,000 portfolio which is invested in stocks A and B, and a risk-free asset. $5,000 is invested in stock A. Stock A has a beta of 1.76 and stock B has a beta of 0.89. How much needs to be invested in stock B if you want a portfolio beta of 1.10?
$4,943.82 BetaPortfolio = 1.10 = ($5,000/$12,000)(1.76) + (x/$12,000)(0.89) + (($12,000 - $5,000 - x)/$12,000)(0); x = $4,943.82
You have $10,000 to invest in a stock portfolio. Your choices are Stock X with an expected return of 13 percent and Stock Y with an expected return of 8 percent. Your goal is to create a portfolio with an expected return of 12.4 percent. All money must be invested. How much will you invest in stock X?
$8,800 E(Rp) = 0.124 = .13x + .08(1 - x); x = 88 percent Investment in Stock X = 0.88($10,000) = $8,800
What is the variance of the returns on a portfolio that is invested 60 percent in stock S and 40 percent in stock T? Boom: 20%/S: 17%/T: 7% Normal: 80%/S: 13%/T: 10%
.000023 E(r)Boom = (0.60 0.17) + (0.40 0.07) = 0.13 E(r)Normal = (0.60 0.13) + (0.40 0.10) = 0.118 E(r)Portfolio = (0.20 0.13) + (0.80 0.118) = 0.1204 VarPortfolio = 0.20 (0.13 - 0.1204)2] + 0.80 (0.118 - 0.1204)2 = .000023
What is the variance of the returns on a portfolio comprised of $5,400 of stock G and $6,600 of stock H? Boom: 36%/G: 21%/H: 13% Normal: 64%/G: 13%/H: 7%
.001097 E(r)Boom = [$5,400/($5,400 + $6,600)][0.21] + [($6,600/($5,400 + $6,600)][0 .13] = 0.166 E(r)Normal = [$5,400/($5,400 + $6,600)][0.13] + [$6,600/($5,400 + $6,600)][0.07] = 0.097 E(r)Portfolio = (0.36 0.166) + (0.64 0.097) = 0.12184 VarPortfolio = [0.36 (0.166 - 0.12184)2] + [0.64 (0.097 - 0.12184)2] = 0.001097
The rate of return on the common stock of Lancaster Woolens is expected to be 21 percent in a boom economy, 11 percent in a normal economy, and only 3 percent in a recessionary economy. The probabilities of these economic states are 10 percent for a boom, 70 percent for a normal economy, and 20 percent for a recession. What is the variance of the returns on this common stock?
0.002244 E(r) = (0.10 0.21) + (0.70 0.11) + (0.20 0.03) = 0.104 Var = 0.10 (0.21 - 0.104)2 + 0.70 (0.11 - 0.104)2 + 0.20 (0.03 - 0.104)2 = 0.002244
If the economy is normal, Charleston Freight stock is expected to return 15.7 percent. If the economy falls into a recession, the stock's return is projected at a negative 11.6 percent. The probability of a normal economy is 80 percent while the probability of a recession is 20 percent. What is the variance of the returns on this stock?
0.011925 E(r) = (0.80 0.157) + (0.20 -0.116) = 0.1024 Var = 0.80 (0.157 - 0.1024)2 + 0.20 (-0.116 - 0.1024)2 = 0.011925
Your portfolio is comprised of 40 percent of stock X, 15 percent of stock Y, and 45 percent of stock Z. Stock X has a beta of 1.16, stock Y has a beta of 1.47, and stock Z has a beta of 0.42. What is the beta of your portfolio?
0.87 BetaPortfolio = (0.40 1.16) + (0.15 1.47) + (0.45 0.42) = 0.87
You own a portfolio equally invested in a risk-free asset and two stocks. One of the stocks has a beta of 1.9 and the total portfolio is equally as risky as the market. What is the beta of the second stock?
1.10 ?p = 1.0 = (1/3)(0) + (1/3)(?x) + (1/3)(1.9); ?x = 1.1
What is the beta of the following portfolio? Stock/Amnt Invested/Beta A/$6700/1.58 B/$4900/1.23 C/$8500/0.79
1.16 ValuePortfolio = $6,700 + $4,900 + $8,500 = $20,100 BetaPortfolio = ($6,700/$20,100 1.58) + ($4,900/$20,100 1.23) + ($8,500/$20,100 0.79) = 1.16
What is the standard deviation of the returns on a $30,000 portfolio which consists of stocks S and T? Stock S is valued at $12,000. B 5%/S 11%/T 5% N 85%/S 8%/T 6% R 10%/S -5%/T 8%
1.22 percent E(r)Boom = [$12,000/$30,000] [0.11] + [($30,000 - $12,000)/$30,000] [0.05] = 0.074 E(r)Normal = [$12,000/$30,000] [0.08] + [($30,000 - $12,000)/$30,000] [0.06] = 0.068 E(r)Bust = [$12,000/$30,000] [-0.05] + [($30,000 - $12,000)/$30,000] [0.08] = 0.028 E(r)Portfolio = (0.05 0.074) + (0.85 0.068) + (0.10 0.028) = 0.0643 VarPortfolio = [0.05 (0.074 - 0.0643)2] + [0.85 (0.068 - 0.0643)2] + [0.10 (0.028 - 0.0643)2] = .000148111 Std dev = 0.000148111 = 1.22 percent
A stock has an expected return of 11 percent, the risk-free rate is 6.1 percent, and the market risk premium is 4 percent. What is the stock's beta?
1.23 E(Ri) = 0.11 = 0.61 + ?i(0.04); ?i = 1.23
You recently purchased a stock that is expected to earn 22 percent in a booming economy, 9 percent in a normal economy, and lose 33 percent in a recessionary economy. There is a 5 percent probability of a boom and a 75 percent chance of a normal economy. What is your expected rate of return on this stock?
1.25 percent E(r) = (0.05 x 0.22) + (0.75 x 0.09) + (0.20 x -0.33) = 1.25 percent
What is the standard deviation of the returns on a portfolio that is invested 52 percent in stock Q and 48 percent in stock R? Boom: 10%/Q: 14%/R: 16% Normal: 90%/Q: 8%/R: 11%
1.66 percent E(r)Boom = (0.52 0.14) + (.0.48 0.16) = 0.1496 E(r)Normal = (0.52 0.08) + (0.48 0.11) = 0.0944 E(r)Portfolio = (0.10 .0.1496) + (0.90 0.0944) = 0.09992 VarPortfolio = [0.10 (0.1496 - 0.09992)2] + [0.90 (0.0944 - 0.09992)2] = 0.000274 Std dev = 0.000274 = 1.66 percent
The common stock of Jensen Shipping has an expected return of 16.3 percent. The return on the market is 10.8 percent and the risk-free rate of return is 3.8 percent. What is the beta of this stock?
1.79 E(r) = 0.163 = 0.038 + ? (0.108 - 0.038); ? = 1.79
You are comparing stock A to stock B. Given the following information, what is the difference in the expected returns of these two securities? State of Economy: Normal Probability of State of Economy: 45% RoR if State Occurs: Stock A 14% Stock B 17% State: Recession Probability: 55% Ror: Stock A -22% Stock B -28%
1.95 percent E(r)A = (0.45 x 0.14) + (0.55 x -0.22) = -5.80 percent E(r)B = (0.45 x 0.17) + (0.55 x -0.28) = -7.75 percent Difference = -5.80 percent - (-7.75 percent) = 1.95 percent
What is the expected return on a portfolio that is equally weighted between stocks K and L given the following information? Boom: 25%/K: 16%/L: 13% Normal: 75%/K: 12%/L: 8%
11.13 percent E(r) = 0.25[(0.16 + 0.13)/2] + 0.75[(0.12 + 0.08)/2] = 11.13 percent
The risk-free rate of return is 3.9 percent and the market risk premium is 6.2 percent. What is the expected rate of return on a stock with a beta of 1.21?
11.40 percent E(r) = 0.039 + (1.21 0.062) = 11.40 percent
What is the expected return on this portfolio? A: E(r) 12%/#shares 300/$28 B: 12%/500/$10 C: 15%/600/$13
11.92 percent Portfolio value = (300 $28) + (500 $10) + (600 $13) = $8,400 + $5,000 + $7,800 = $21,200; E(r) = ($8,400/$21,200) (0.12) + ($5,000/$21,200) (0.07) + ($7,800/$21,200) (0.15) = 11.92 percent
You own a portfolio that has $2,000 invested in Stock A and $1,400 invested in Stock B. The expected returns on these stocks are 14 percent and 9 percent, respectively. What is the expected return on the portfolio?
11.94 percent E(Rp) = [$2,000/($2,000 + $1,400)] [0.14] + [$1,400/($2,000 + $1,400)] [0.09] = 11.94 percent
Thayer Farms stock has a beta of 1.12. The risk-free rate of return is 4.34 percent and the market risk premium is 7.92 percent. What is the expected rate of return on this stock?
13.21 percent E(r) = 0.0434 + (1.12 x 0.0792) = 13.21 percent
Your portfolio is invested 26 percent each in Stocks A and C, and 48 percent in Stock B. What is the standard deviation of your portfolio given the following information? State/Prob/RorA/RorB/RorC Boom/0.25/0.25/0.25/0.45 Good/0.25/0.10/0.13/0.11 Poor/0.25.0.03/0.05/0.05 Bust/0.25/-0.04/-0.09/-0.09
13.73 percent E(Rp)Boom = 0.26(0.25) + 0.48(0.25) + 0.26(0.45) = 0.302 E(Rp)Good = 0.26(0.10) + 0.48(0.13) + 0.26(0.11) = 0.117 E(Rp)Poor = 0.26(0.03) + 0.48(0.05) + 0.26(0.05) = 0.0448 E(Rp)Bust = 0.26(-0.04) + 0.48(-0.09) + 0.26(-0.09) = -0.077 E(Rp) = 0.25(0.302) + 0.25(0.117) + 0.25(0.0448) + 0.25(-0.077) = 0.0967 p2 = 0.25(0.302 - 0.0967)2 + 0.25(0.117 - 0.0967)2 + 0.25(0.0448 - 0.0967)2 + 0.25(-0.077 - 0.0967)2 = 0.018856 p = 0.018856 = 13.73 percent
Suppose you observe the following situation: Security/Beta/E(r) Pete Corp//0.8/0.12 Repete Corp/1.1/0.16 Assume these securities are correctly priced. Based on the CAPM, what is the return on the market?
14.67 percent Rf : (0.12 - Rf)/0.8 = (0.16 - Rf)/1.1; Rf = 1.33 percent RM: 0.12 = 0.0133 + 0.8(RM - 0.0133); RM = 14.67 percent
What is the expected return on a portfolio comprised of $6,200 of stock M and $4,500 of stock N if the economy enjoys a boom period? Boom: 14%/M: 23%/N: 5% Normal: 80%/M: 13%/N: 9% Recession: 6%/M: -31%/N: 18%
15.43 percent E(r)Boom = [$6,200/($6,200 + $4,500)][0.23] + [$4,500/($6,200 + $4,500)] [0.05] = 15.43 percent
What is the expected return and standard deviation for the following stock? State of Economy/Probability/RoR Recession/0.10/-0.19 Normal/0.60/0.14 Boom/0.30/0.35
17.00 percent; 15.24 percent E(R) = 0.10(-0.19) + 0.60(0.14) + 0.30(0.35) = 17.00 percent 2 = 0.10(-0.19 - 0.17)2 + 0.60(0.14 - 0.17)2 + 0.30(0.35 - 0.17)2 = 0.02322 = 0.02322 = 15.24 percent
What is the expected return of an equally weighted portfolio comprised of the following three stocks? State/Prob./RorA/RorB/RorC Boom/0.64/0.19/0.13/0.31 Bust/0.36/0.15/0.11/0.17
18.60 percent E(Rp)Boom = (0.19 + 0.13 + 0.31)/3 = 0.21 E(Rp)Bust = (0.15 + 0.11 + 0.17)/3 = 0.1433 E(Rp) = 0.64(0.21) + 0.36(0.1433) = 18.60 percent
The returns on the common stock of New Image Products are quite cyclical. In a boom economy, the stock is expected to return 32 percent in comparison to 14 percent in a normal economy and a negative 28 percent in a recessionary period. The probability of a recession is 25 percent while the probability of a boom is 10 percent. What is the standard deviation of the returns on this stock?
19.94 percent E(r) = (0.10 0.32) + (0.65 0.14) + (0.25 -0.28) = 0.053 Var = 0.10 (0.32 - 0.053)2 + 0.65 (0.14 - 0.053)2 + 0.25 (-0.28 - 0.053)2 = 0.039771 Std dev = 0.039771 = 19.94 percent
What is the standard deviation of the returns on a stock given the following information? State: Normal Probability: 30% Ror: 15% State: Normal P: 65% RoR: 12% State: Recession P: 5% RoR: 6%
2.03 percent E(r) = (0.30 0.15) + (0.65 0.12) + (0.05 0.06) = 0.126 Var = 0.30 (0.15 - 0.126)2 + 0.65 (0.12 - 0.126)2 + 0.05 (0.06 - 0.126)2 = 0.000414 Std dev = 0.000414 = 2.03 percent
Your portfolio has a beta of 1.12. The portfolio consists of 20 percent U.S. Treasury bills, 50 percent stock A, and 30 percent stock B. Stock A has a risk-level equivalent to that of the overall market. What is the beta of stock B?
2.07 BetaPortfolio = 1.12 = (0.2 x 0) + (0.5 x 1) + (0.3 x ?B); ?B = 2.07 The beta of a risk-free asset is zero. The beta of the market is 1.0.
Suppose you observe the following situation: Bust/P.22/A-0.12/B-0.27 Normal/P.48/A.10/B/.05 Boom/P.30/A.23/B.28 Assume the capital asset pricing model holds and stock A's beta is greater than stock B's beta by 0.21. What is the expected market risk premium?
20.0 percent E(RA) = 0.22(-0.12) + 0.48(0.10) + 0.30(0.23) = .0906 E(RB) = 0.22(-0.27) + 0.48(0.05) + 0.30(0.28) = .0486 SlopeSML = (.0906 - 0.486)/0.21 = 20 percent
How many diverse securities are required to eliminate the majority of the diversifiable risk from a portfolio?
25
Consider the following information on three stocks: Boom/0.45/0.55/0.35/0.65 Normal/0.5/0.44/0.18/0.04 Bust/0.05/0.37/-0.17/-0.64 A portfolio is invested 35 percent each in Stock A and Stock B and 30 percent in Stock C. What is the expected risk premium on the portfolio if the expected T-bill rate is 3.8 percent?
29.99 percent E(Rp)Boom = 0.35(0.55) + 0.35(0.35) + 0.30(0.65) = 0.51 E(Rp)Normal = 0.35(0.44) + 0.35(0.18) + 0.30(0.04) = 0.229 E(Rp)Bust = 0.35(0.37) + 0.35(-0.17) + 0.30(-0.64) = -0.122 E(Rp) = 0.45(0.51) + 0.50(0.229) + 0.05(-0.122) = 0.3379 RPi = 0.3379 - 0.038 = 29.99 percent
You own the following portfolio of stocks. What is the portfolio weight of stock C? Stock: #of Shares: $/share: A 500 $14 B 200 23 C 600 18 D 100 47
39.85 percent Portfolio weightC = (600 $18)/[(500 $14) + (200 $23) + (600 $18) + (100 $47)] = $10,800/$27,100 = 39.85 percent
The expected return on JK stock is 15.78 percent while the expected return on the market is 11.34 percent. The stock's beta is 1.62. What is the risk-free rate of return?
4.18 percent E(r) = 0.1578 = rf + 1.62 (0.1134 - rf); rf = 4.18 percent
Consider the following information on Stocks I and II: Recession/P0.06/A0.15/B-0.35 Normal/P0.25/A0.35/B0.35 Irrational Exuberance/P0.69/A0.43/B0.45 The market risk premium is 8 percent, and the risk-free rate is 3.6 percent. The beta of stock I is _____ and the beta of stock II is _____.
4.47; 4.26 E(RI) = 0.06(0.15) + 0.25(0.35) + 0.69(0.43) = 0.3932 BI: 0.3932 = 0.036 + BI (0.08); BI = 4.47 E(RII) = 0.06(-0.35) + 0.25(0.35) + 0.69(0.45) = 0.0377 BII: 0.0377 = 0.036 + BII (0.08); BII = 4.26
You have a portfolio consisting solely of stock A and stock B. The portfolio has an expected return of 8.7 percent. Stock A has an expected return of 11.4 percent while stock B is expected to return 6.4 percent. What is the portfolio weight of stock A?
46 percent 0.087 = [0.114 x] + [0.064 (1 - x)]; x = 46 percent
What is the expected return on a portfolio which is invested 25 percent in stock A, 55 percent in stock B, and the remainder in stock C? Boom/5%/A: 19%/B: 9/C: 6% Normal/45%/A: 11%/B: 8%/ C: 13% Recession/50%/A; -23%/B: 5%/C: 25%
5.93 percent E(r)Boom = (0.25 0.19) + (0.55 0.09) + (0.20 0.06) = 0.109 E(r)Normal = (0.25 0.11) + (0.55 0.08) + (0.20 0.13) = .0975 E(r)Bust = (0.25 - 0.23) + (0.55 0.05) + (0.20 0.25) = 0.02 E(r)Portfolio = (0.05 0.109) + (0.45 0.0975) + (0.50 0.02) = 5.93 percent
The market has an expected rate of return of 10.7 percent. The long-term government bond is expected to yield 5.8 percent and the U.S. Treasury bill is expected to yield 3.9 percent. The inflation rate is 3.6 percent. What is the market risk premium?
6.8 percent Market risk premium = 10.7 percent - 3.9 percent = 6.8 percent
You would like to combine a risky stock with a beta of 1.68 with U.S. Treasury bills in such a way that the risk level of the portfolio is equivalent to the risk level of the overall market. What percentage of the portfolio should be invested in the risky stock?
60 percent BetaPortfolio = 1.0 = [(x) 1.68] + [(1 - x) 0]; x = 60 percent
Jerilu Markets has a beta of 1.09. The risk-free rate of return is 2.75 percent and the market rate of return is 9.80 percent. What is the risk premium on this stock?
7.68 percent Risk premium = 1.09 (0.098 - 0.0275) = 7.68 percent
What is the standard deviation of the returns on a portfolio that is invested in stocks A, B, and C? Twenty five percent of the portfolio is invested in stock A and 40 percent is invested in stock C. B 5/ A 17/B 6/C 22 N 55/A 8/B 10/C 15 R 40/A -3/B 19/C -25
7.83 percent E(r)Boom = (0.25 0.17) + (0.35 0.06) + (0.40 0.22) = 0.1515 E(r)Normal = (0.25 0.08) + (0.35 0.10) + (0.40 0.15) = 0.115 E(r)Bust = (0.25 -0.03) + (0.35 0.19) + (0.40 -0.25) = -0.041 E(r)Portfolio = (0.05 0.1515) + (0.55 0.115) + (0.40 -0.041) = 0.054425 VarPortfolio = [0.05 (0.1515 - 0.054425)2] + [0.55 (0.115 - 0.054425)2] + [0.40 (-0.041 - 0.054425)2] = 0.006132 Std dev = .006132 = 7.83 percent
The common stock of United Industries has a beta of 1.34 and an expected return of 14.29 percent. The risk-free rate of return is 3.7 percent. What is the expected market risk premium?
7.90 percent E(r) = 0.1429 = 0.037 + 1.34 Mrp; Mrp = 7.90 percent
A stock has a beta of 1.2 and an expected return of 17 percent. A risk-free asset currently earns 5.1 percent. The beta of a portfolio comprised of these two assets is 0.85. What percentage of the portfolio is invested in the stock?
71 percent ?p = 0.85 = 1.2x + (1 -x)(0); Bp = 71 percent
The common stock of Manchester & Moore is expected to earn 13 percent in a recession, 6 percent in a normal economy, and lose 4 percent in a booming economy. The probability of a boom is 5 percent while the probability of a recession is 45 percent. What is the expected rate of return on this stock?
8.65 percent E(r) = (0.45 x 0.13) + (0.50 x 0.06) + (0.05 x -0.04) = 8.65 percent
You own a portfolio with the following expected returns given the various states of the economy. What is the overall portfolio expected return? Boom/27%/14% Normal/70%/8% Recession/3%/-11%
9.05 percent E(r) = (0.27 0.14) + (0.70 0.08) + (0.03 -0.11) = 9.05 percent
Which one of the following statements is correct concerning a portfolio beta?
A portfolio beta is a weighted average of the betas of the individual securities contained in the portfolio.
Which one of the following stocks is correctly priced if the risk-free rate of return is 3.7 percent and the market risk premium is 8.8 percent? Stock/Beta/Expected Return A/.64/9.47% B/.97/12.03% C/1.22/14.44% D/1.37/15.80% E/1.68/18.37%
C E(r)A = 0.037 + (0.64 x 0.088) = 0.0933 E(r)B = 0.037 + (0.97 x 0.088) = 0.1224 E(r)C = 0.037 + (1.22 x 0.088) = 0.1444 Stock C is correctly priced. E(r)D = 0.037 + (1.37 x 0.088) = 0.1576 E(r)E = 0.037 + (1.68 x 0.088) = 0.1848
Which one of the following stocks is correctly priced if the risk-free rate of return is 3.2 percent and the market rate of return is 11.76 percent? Stock/Beta/E(r) A/.87/11.03% B/1.09/12.97% C/1.18/13.21% D/1.34/15.02% E/1.62/17.07
E E(r)A = 0.032 + [0.87 (0.1176 - 0.032)] = 0.1065 E(r)B = 0.032 + [1.09 (0.1176 - 0.032)] = 0.1253 E(r)C = 0.032 + [1.18 (0.1176 - 0.032)] = 0.1330 E(r)D = 0.032 + [1.34 (0.1176 - 0.032)] = 0.1467 E(r)E = 0.032 + [1.62 (0.1176 - 0.032)] = 0.1707 Stock E is correctly priced.
Which one of the following statements is correct concerning unsystematic risk?
Eliminating unsystematic risk is the responsibility of the individual investor.
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?
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.
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.
I and III only
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
I and IV only
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.
I, II and III only
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
I, II, III, and IV
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.
I, II, and III 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
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
II and IV only
Which one of the following statements is correct?
Over time, the average unexpected return will be zero.
The common stock of Alpha Manufacturers has a beta of 1.47 and an actual expected return of 15.26 percent. The risk-free rate of return is 4.3 percent and the market rate of return is 12.01 percent. Which one of the following statements is true given this information?
The actual expected stock return indicates the stock is currently overpriced. E(r) = 0.043 + 1.47 (0.1201 - 0.043) = 15.63 percent The stock is overpriced because its actual expected return is less than the CAPM return.
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 events would be included in the expected return on Sussex stock?
This morning, Sussex confirmed that its CEO is retiring at the end of the year as was anticipated.
Which one of the following statements related to unexpected returns is correct?
Unexpected returns can be either positive or negative in the short term but tend to be zero over the long-term.
The systematic risk of the market is measured by:
a beta of 1.0.
Which one of the following indicates a portfolio is being effectively diversified?
a decrease in the portfolio standard deviation
Which one of the following is the best example of a diversifiable risk?
a firm's sales decrease
A stock with an actual return that lies above the security market line has:
a higher return than expected for the level of risk assumed.
The expected return on a stock computed using economic probabilities is:
a mathematical expectation based on a weighted average and not an actual anticipated outcome.
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?
beta
Systematic risk is measured by:
beta.
Unsystematic risk:
can be effectively eliminated by portfolio diversification.
The standard deviation of a portfolio:
can be less than the standard deviation of the least risky security in the portfolio.v
The standard deviation of a portfolio:
can be less than the weighted average of the standard deviations of the individual securities held in that portfolio.
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?
capital asset pricing model
Which one of the following is an example of unsystematic risk?
consumer spending on entertainment decreased nationally
Treynor Industries is investing in a new project. The minimum rate of return the firm requires on this project is referred to as the:
cost of capital.
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:
either stock A is overpriced or stock B is underpriced or both.
The primary purpose of portfolio diversification is to:
eliminate asset-specific risk.
Which one of the following is most directly affected by the level of systematic risk in a security?
expected rate of return
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?
expected return
Which one of the following is an example of systematic risk?
investors panic causing security prices around the globe to fall precipitously
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:
is underpriced.
Which one of the following is represented by the slope of the security market line?
market 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 expected rate of return on a stock portfolio is a weighted average where the weights are based on the:
market value of the investment in each stock.
If a stock portfolio is well diversified, then the portfolio variance:
may be less than the variance of the least risky stock in the portfolio.
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?
portfolio
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?
portfolio weight
Which one of the following is least apt to reduce the unsystematic risk of a portfolio?
reducing the number of stocks held in the portfolio
Which one of the following will be constant for all securities if the market is efficient and securities are priced fairly?
reward-to-risk ratio
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.
risk premium
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:
risk premium.
The expected risk premium on a stock is equal to the expected return on the stock minus the:
risk-free rate.
Which one of the following is a positively sloped linear function that is created when expected returns are graphed against security betas?
security market line
The principle of diversification tells us that:
spreading an investment across many diverse assets will eliminate some of the total risk.
Total risk is measured by _____ and systematic risk is measured by _____.
standard deviation; beta
Which one of the following should earn the most risk premium based on CAPM?
stock with a beta of 1.38
The market risk premium is computed by:
subtracting the risk-free rate of return from the market rate of return.
Which one of the following is a risk that applies to most securities?
systematic
The _____ tells us that the expected return on a risky asset depends only on that asset's nondiversifiable risk.
systematic risk principle
The intercept point of the security market line is the rate of return which corresponds to:
the risk-free rate.
Standard deviation measures which type of risk?
total
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?
unsystematic
Which one of the following risks is irrelevant to a well-diversified investor?
unsystematic risk
The expected return on a stock given various states of the economy is equal to the:
weighted average of the returns for each economic state.
