Fin. Chapter 6 True or False.

Total risk equals systematic risk plus unsystematic risk.

True

Asset allocation is not recommended by financial planners because mixing different types of assets, such as stocks with bonds, makes it more difficult to track performance and adjust portfolios to changing market conditions.

False

A stock with a beta of 1 has systematic or market risk equal to the "typical" stock in the marketplace.

True

A well-diversified portfolio typically has systematic risk equal to about 40o/o of the portfolio's total risk.

True

According to the CAPM, for each unit of Beta an asset's required rate of return increases by the market's risk premium.

True

Beta is a measurement of the relationship between a security's returns and the general market's returns.

True

Beta represents the average movement of a company's stock returns in response to a movement in the market's returns.

True

The benefits of diversification occur as long as the investments in a portfolio are not perfectly positively correlated.

True

The expected rate of return from an investment is equal to the expected cash flows divided by the initial investment.

True

The required rate of return for an asset is equal to the risk-free rate plus a risk premium.

True

Most stocks have betas between

0.60 and 1.60

Surf and Spray Inc. has a beta equal to 1.8 and a required return of 15% based on the CAPM. If the market risk premium is 7.5%, the risk-free rate of return is

1.5%

Assume that you have $330,000 invested in a stock that is returning 11.50%, $170,000 invested in a stock that is returning 22.75%, and $470,000 invested in a stock that is returning 10.25%. What is the expected return of your portfolio?

12.87%

The risk-free rate of interest is 4% and the market risk premium is 9%. Howard Corporation has a beta of 2.0, and last year generated a return of 16% with a standard deviation of returns of 27%. The required return on Howard Corporation stock is

22%.

Stock Z has an expected return of 12% with a standard deviation of 8%. If returns are normally distributed, then approximately two-thirds of the time the return on stock Z will be

Between 4% and 20%

Actual returns are always less than expected returns because actual returns are determined at the end of the period and must be discounted back to present value.

False

Adding stocks to a bond portfolio will increase the riskiness of the portfolio because stocks have higher standard deviations of returns than bonds.

False

Because risk is measured by variability of returns, how long we hold our investments does not matter very much when it comes to reducing risk.

False

You are considering buying some stock in Continental Grain. Which of the following are examples of non-diversifiable risks? I. Risk resulting from a general decline in the stock market. II. Risk resulting from a possible increase in income taxes. III. Risk resulting from an explosion in a grain elevator owned by Continental. IV. Risk resulting from a pending lawsuit against Continental.

I and II

Changes in the general economy, like changes in interest rates or tax laws represent what type of risk?

Market Risk

Company unique risk can be virtually eliminated with a portfolio consisting of approximately 20 securities.

True

Diversifying among different kinds of assets is called asset allocation.

True

Small company stocks have historically had higher average annual returns than large company stocks, and also a higher risk premium

True

The Beta of a T-bill is zero.

True

A typical measure for the risk-free rate of return is the

U.S. Treasury Bill rate.

The minimum rate of return necessary to attract an investor to purchase or hold a security is referred to as the

investor's required rate of return

What is the name given to the equation that financial managers use to measure an investor's required rate of return?

the capital asset pricing model

Beta is a statistical measure of

the relationship between an investment's returns and the market return.

Stock A has a beta of 1.2 and a standard deviation of returns of 18%. Stock B has a beta of 1.8 and a standard deviation of returns of 18%. If the market risk premium increases, then

the required return on stock B will increase more than the required return on stock A.

Beginning with an investment in one company's securities, as we add securities of other companies to our portfolio, which type of risk declines?

unsystematic risk