Question 1

Overpriced stocks will plot above the security market line.

Accepted Answer

A) True 
 B)False

Question 2

The distribution of returns, measured over a short interval of time, such as daily returns, is best approximated by the

Accepted Answer

A) normal distribution. 
B) lognormal distribution. 
C) binomial distribution. 
D) uniform distribution. 
A) normal distribution. 
B) lognormal distribution. 
C) binomial distribution. 
D) uniform distribution.

Question 3

In theory, the CAPM requires that the market portfolio consist of only common stocks.

Accepted Answer

A) True 
 B)False

Question 4

The graphical representation of the CAPM (capital asset pricing model)is called the

Accepted Answer

A) capital market line. 
B) characteristic line. 
C) security market line. 
D) None of the options are correct. 
A) capital market line. 
B) characteristic line. 
C) security market line. 
D) None of the options are correct.

Question 5

The beta of the market portfolio is

Accepted Answer

A) 0.0. 
B) +0.5. 
C) −1.0. 
D) +1.0. 
A) 0.0. 
B) +0.5. 
C) −1.0. 
D) +1.0.

Question 6

If the market risk premium is 8 percent, then according to the CAPM, the risk premium of a stock with beta value of 1.7 must be

Accepted Answer

A) less than 12 percent. 
B) 12 percent. 
C) greater than 12 percent. 
D) The answer cannot be determined. 
A) less than 12 percent. 
B) 12 percent. 
C) greater than 12 percent. 
D) The answer cannot be determined.

Question 7

If two investments offer the same expected return, then most investors would prefer the one with higher variance.

Accepted Answer

A) True 
 B)False

Question 8

According to the CAPM, all investments plot along the security market line.

Accepted Answer

A) True 
 B)False

Question 9

If the correlation coefficient between Stock A and Stock B is +0.6, what is the correlation coefficient between Stock B with Stock A?

Accepted Answer

A) +0.6 
B) −0.6 
C) +0.4 
D) −0.4 
A) +0.6 
B) −0.6 
C) +0.4 
D) −0.4

Question 10

By combining lending and borrowing at the risk-free rate with efficient portfolios, we can

Accepted Answer

A) extend the range of investment possibilities. 
B) extend the range of investment possibilities and change the set of efficient portfolios from being curvilinear to a straight line. 
C) extend the range of investment possibilities, change the set of efficient portfolios from being curvilinear to a straight line, and provide a higher expected return for any level of risk, except for the tangential portfolio and the risk-free asset. 
D) change the set of efficient portfolios from being curvilinear to a straight line and provide a higher expected return for any level of risk, except for the tangential portfolio and the risk-free asset. 
A) extend the range of investment possibilities. 
B) extend the range of investment possibilities and change the set of efficient portfolios from being curvilinear to a straight line. 
C) extend the range of investment possibilities, change the set of efficient portfolios from being curvilinear to a straight line, and provide a higher expected return for any level of risk, except for the tangential portfolio and the risk-free asset. 
D) change the set of efficient portfolios from being curvilinear to a straight line and provide a higher expected return for any level of risk, except for the tangential portfolio and the risk-free asset.

Question 11

Suppose you borrow at the risk-free rate an amount equal to your initial wealth and invest in a portfolio with an expected return of 16 percent and a standard deviation of returns of 20 percent. The risk-free asset has an interest rate of 4 percent. Calculate the expected return on the resulting portfolio.

Accepted Answer

A) 20 percent 
B) 32 percent 
C) 28 percent 
D) 12 percent 
A) 20 percent 
B) 32 percent 
C) 28 percent 
D) 12 percent

Question 12

Florida Company (FC)and Minnesota Company (MC)are both service companies. Their stock returns for the past three years were as follows: FC: −5 percent, 15 percent, 20 percent; MC: 8 percent, 8 percent, 20 percent.
Calculate the mean return for each company.

Accepted Answer

A) FC: 12 percent; MC: 6 percent 
B) FC: 10 percent; MC: 12 percent 
C) FC: 20 percent; MC: 32 percent 
D) None of the options are correct. 
A) FC: 12 percent; MC: 6 percent 
B) FC: 10 percent; MC: 12 percent 
C) FC: 20 percent; MC: 32 percent 
D) None of the options are correct.

Question 13

Assume the following data for a stock: Risk-free rate = 4 percent; factor-1 beta = 1.5; factor-2 beta = 0.5; factor-1 risk premium = 8 percent; factor-2 risk premium = 2 percent. Calculate the expected rate of return on the stock using a two-factor APT model.

Accepted Answer

A) 14 percent 
B) 17 percent 
C) 10 percent 
D) 13 percent 
A) 14 percent 
B) 17 percent 
C) 10 percent 
D) 13 percent

Question 14

The beta of Treasury bills is

Accepted Answer

A) +1.0. 
B) +0.5. 
C) −1.0. 
D) 0.0. 
A) +1.0. 
B) +0.5. 
C) −1.0. 
D) 0.0.

Question 15

Suppose the beta of ExxonMobil is 0.65, the risk-free rate is 4 percent, and the expected market rate of return is 14 percent. Calculate the expected rate of return on ExxonMobil.

Accepted Answer

A) 12.6 percent 
B) 10.5 percent 
C) 13.1 percent 
D) 6.5 percent 
A) 12.6 percent 
B) 10.5 percent 
C) 13.1 percent 
D) 6.5 percent

Question 16

The correlation coefficient measures the

Accepted Answer

A) rate of return of individual stocks. 
B) direction of movement of the return of individual stocks. 
C) degree to which the returns of two stocks move together. 
D) degree of s unique risk present in the standard deviations of a pair of stocks. 
A) rate of return of individual stocks. 
B) direction of movement of the return of individual stocks. 
C) degree to which the returns of two stocks move together. 
D) degree of s unique risk present in the standard deviations of a pair of stocks.

Question 17

Briefly explain the term market portfolio.

Accepted Answer

The market portfolio is a risk

Question 18

If a stock were underpriced, it would plot

Accepted Answer

A) above the security market line. 
B) below the security market line. 
C) on the security market line. 
D) on the y-axis. 
A) above the security market line. 
B) below the security market line. 
C) on the security market line. 
D) on the y-axis.

Question 19

The correlation between the return on a risk-free asset and the return on any common stock will equal zero.

Accepted Answer

A) True 
 B)False

Question 20

Briefly explain the effect of introducing borrowing and lending at the risk-free rate on the efficient portfolios.

Accepted Answer

Borrowing and lending extend the range o

Exam 8: Portfolio Theory and the Capital Asset Pricing Model

Overpriced stocks will plot above the security market line.

The distribution of returns, measured over a short interval of time, such as daily returns, is best approximated by the

In theory, the CAPM requires that the market portfolio consist of only common stocks.

The graphical representation of the CAPM (capital asset pricing model)is called the

The beta of the market portfolio is

If the market risk premium is 8 percent, then according to the CAPM, the risk premium of a stock with beta value of 1.7 must be

If two investments offer the same expected return, then most investors would prefer the one with higher variance.

According to the CAPM, all investments plot along the security market line.

If the correlation coefficient between Stock A and Stock B is +0.6, what is the correlation coefficient between Stock B with Stock A?

By combining lending and borrowing at the risk-free rate with efficient portfolios, we can

Florida Company (FC)and Minnesota Company (MC)are both service companies. Their stock returns for the past three years were as follows: FC: −5 percent, 15 percent, 20 percent; MC: 8 percent, 8 percent, 20 percent. Calculate the mean return for each company.

Assume the following data for a stock: Risk-free rate = 4 percent; factor-1 beta = 1.5; factor-2 beta = 0.5; factor-1 risk premium = 8 percent; factor-2 risk premium = 2 percent. Calculate the expected rate of return on the stock using a two-factor APT model.

The beta of Treasury bills is

Suppose the beta of ExxonMobil is 0.65, the risk-free rate is 4 percent, and the expected market rate of return is 14 percent. Calculate the expected rate of return on ExxonMobil.

The correlation coefficient measures the

Briefly explain the term market portfolio.

If a stock were underpriced, it would plot

The correlation between the return on a risk-free asset and the return on any common stock will equal zero.

Briefly explain the effect of introducing borrowing and lending at the risk-free rate on the efficient portfolios.

Introduction to Corporate Finance

How to Calculate Present Values

Valuing Bonds

The Value of Common Stocks

Net Present Value and Other Investment Criteria

Making Investment Decisions With the Net Present Value Rule

Introduction to Risk and Return

Risk and the Cost of Capital

Project Analysis

How to Ensure That Projects Truly Have Positive Npvs

Agency Problems and Investment

Efficient Markets and Behavioral Finance

An Overview of Corporate Financing

How Corporations Issue Securities

Payout Policy

Does Debt Policy Matter

How Much Should a Corporation Borrow

Financing and Valuation

Understanding Options

Valuing Options

Real Options

Credit Risk and the Value of Corporate Debt

The Many Different Kinds of Debt

Leasing

Managing Risk

Managing International Risks

Financial Analysis

Financial Planning

Working Capital Management

Mergers

Corporate Restructuring

Governance and Corporate Control Around the World

Filters