intro to finance chapter 13

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.

to find variance of returns of common stock, what do you do?

first find the expected return of each by multiplying prob. by exp rate of return

The intercept point of the security market line is the rate of return which corresponds to:

risk-free rate

How many diverse securities are required to eliminate the majority of the diversifiable risk from a portfolio?

10

Which one of the following indicates a portfolio is being effectively diversified?

A decrease in the portfolio standard deviation.

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 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 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

The primary purpose of portfolio diversification is to:

Eliminate asset-specific risk.

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 is most directly affected by the level of systematic risk in a security?

Expected rate of return.

Which of the following statements concerning risk are correct? I. Non diversifiable risk is measured by beta. II. The risk premium increases as diversifiable risk increases. III. Systematic risk is another name for non diversifiable risk. IV. Diversifiable risks are market risks you cannot avoid.

I AND III

Which of the following statements are correct concerning diversifiable risks? I. Diversifiable risks can be essentially eliminated by investing in 30 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 III

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 IV

Which one of the following is an example 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

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

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

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 is represented by the slope of the security market line?

MARKET RISK PREMIUM

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 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.

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

a firm's sales decrease

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 measured by

beta

The systematic risk of the market is measured by:

beta of 1

Unsystematic risk:

can be eliminated with diversification

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 expected rate of return on a stock portfolio is a weighted average where the weights are based on the:

market value of the investment

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

Which one of the following is least apt to reduce the unsystematic risk of a portfolio?

reducing number of stocks in 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 expected risk premium on a stock is equal to the expected return on the stock minus the:

risk free rate

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

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

Total risk is measured by _____ and systematic risk is measured by _____.

std deviation beta

Which one of the following should earn the most risk premium based on CAPM?

stock with beta of 1.38

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

how about standard deviation?

take the square root of the variance

Standard deviation measures which type of risk?

total

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:

underpriced

A news flash just appeared that caused about a dozen stocks to suddenly drop in value by 20 percent. What type of risk does this news flash best represent?

unsystematic

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

unsystematic risk