Question 1

The inclusion of thirty highly diverse securities in a portfolio eliminates the bulk of the ___ risk.

Accepted Answer

A)  Market. 
B)  Unique. 
C)  Unexpected. 
D)  Expected. 
E)  Inflation. 
A)  Market. 
B)  Unique. 
C)  Unexpected. 
D)  Expected. 
E)  Inflation. B

Question 2

An increase in the rate of GDP growth is an example of systematic risk.

Accepted Answer

A) True 
 B)False  True

Question 3

A stock has a beta of 1.4 and an expected return of 16%. The risk-free rate is 5%. What is the slope of the Security Market Line?

Accepted Answer

A)  7.86% 
B)  7.98% 
C)  8.23% 
D)  8.67% 
E)  8.98% 
A)  7.86% 
B)  7.98% 
C)  8.23% 
D)  8.67% 
E)  8.98% A

Question 4

Standard deviation measures the ____ risk and beta measures the ____ risk of a portfolio.

Accepted Answer

A)  Unsystematic; systematic 
B)  Systematic; unsystematic 
C)  Unsystematic; total 
D)  Total; unsystematic 
E)  Total; systematic 
A)  Unsystematic; systematic 
B)  Systematic; unsystematic 
C)  Unsystematic; total 
D)  Total; unsystematic 
E)  Total; systematic

Question 5

Which of the following is true concerning diversification? Assume that the securities being considered for selection into a portfolio are not perfectly correlated.

Accepted Answer

A)  The risk of the portfolio is certain to be increased as securities are added. 
B)  As more securities are added to the portfolio, the market risk of the portfolio declines. 
C)  After about 10 securities are added to the portfolio, additional securities have essentially no impact on reducing risk. 
D)  As more and more securities are added to the portfolio, the level of risk approaches the level of systematic risk in the market. 
E)  If you hold more than 100 securities, then the portfolio is risk-free. 
A)  The risk of the portfolio is certain to be increased as securities are added. 
B)  As more securities are added to the portfolio, the market risk of the portfolio declines. 
C)  After about 10 securities are added to the portfolio, additional securities have essentially no impact on reducing risk. 
D)  As more and more securities are added to the portfolio, the level of risk approaches the level of systematic risk in the market. 
E)  If you hold more than 100 securities, then the portfolio is risk-free.

Question 6

A stock with an actual return that lies above the security market line:

Accepted Answer

A)  Has more systematic risk than the overall market. 
B)  Has more risk than warranted based on the realized rate of return. 
C)  Has yielded a higher return than expected for the level of risk assumed. 
D)  Has less systematic risk than the overall market. 
E)  Has yielded a return equivalent to the level of risk assumed. 
A)  Has more systematic risk than the overall market. 
B)  Has more risk than warranted based on the realized rate of return. 
C)  Has yielded a higher return than expected for the level of risk assumed. 
D)  Has less systematic risk than the overall market. 
E)  Has yielded a return equivalent to the level of risk assumed.

Question 7

The _____ divided by the beta of the market is equal to the slope of the Security Market Line.

Accepted Answer

A)  Total return of the market. 
B)  Risk-free rate of return. 
C)  Real return of the market. 
D)  Market risk premium. 
E)  Nominal return of the market. 
A)  Total return of the market. 
B)  Risk-free rate of return. 
C)  Real return of the market. 
D)  Market risk premium. 
E)  Nominal return of the market.

Question 8

Which one of the following stocks is correctly priced if the risk-free rate of return is 3.2% and the market risk premium is 8.4%?

Accepted Answer

A)  A 
B)  B 
C)  C 
D)  D 
E)  E 
A)  A 
B)  B 
C)  C 
D)  D 
E)  E

Question 9

What is the expected return on a portfolio that is 40% invested in A and 60% invested in B?

Accepted Answer

A)  10% 
B)  11% 
C)  12.1% 
D)  12.8% 
E)  13.8% 
A)  10% 
B)  11% 
C)  12.1% 
D)  12.8% 
E)  13.8%

Question 10

Provide a definition for expected return.

Accepted Answer

Return on

Question 11

The concept of stock correlation shows:

Accepted Answer

A)  The extent to which the variance of two stocks are similar. 
B)  The average returns of two stocks. 
C)  The average risk of two stocks. 
D)  How risky two assets are. 
E)  The extent to which the returns on two assets move together. 
A)  The extent to which the variance of two stocks are similar. 
B)  The average returns of two stocks. 
C)  The average risk of two stocks. 
D)  How risky two assets are. 
E)  The extent to which the returns on two assets move together.

Question 12

What is the expected return on a portfolio comprised of $8,000 in stock G and $6,000 in stock H if the economy is in a recession?

Accepted Answer

A)  -5.21% 
B)  -4.09% 
C)  -3.14% 
D)  -2.43% 
E)  -2.21% 
A)  -5.21% 
B)  -4.09% 
C)  -3.14% 
D)  -2.43% 
E)  -2.21%

Question 13

Assume you are looking at a graph depicting the security market line. If the market risk premium increases, then the:

Accepted Answer

A)  Market rate of return will plot at a lower point on the vertical axis. 
B)  Intercept point of the security market line will rise up the vertical axis. 
C)  Point depicting the market rate of return will shift to the right parallel to the horizontal axis. 
D)  Slope of the security market line will rise while the intercept point remains constant. 
E)  Slope of the security market line will rise as the intercept point rises up the vertical axis. 
A)  Market rate of return will plot at a lower point on the vertical axis. 
B)  Intercept point of the security market line will rise up the vertical axis. 
C)  Point depicting the market rate of return will shift to the right parallel to the horizontal axis. 
D)  Slope of the security market line will rise while the intercept point remains constant. 
E)  Slope of the security market line will rise as the intercept point rises up the vertical axis.

Question 14

If world events cause investors to become more risk-averse, we would expect the market risk premium to increase.

Accepted Answer

A) True 
 B)False

Question 15

The expected return of the portfolio considers the probability of various states of the economy.

Accepted Answer

A) True 
 B)False

Question 16

You want your portfolio beta to be 1.20. Currently, your portfolio consists of $100 invested in stock A with a beta of 1.4 and $300 in stock B with a beta of.6. You have another $400 to invest and want to divide it between an asset with a beta of 1.6 and a risk-free asset. How much should you invest in the risk-free asset?

Accepted Answer

A)  $0 
B)  $140 
C)  $200 
D)  $320 
E)  $400 
A)  $0 
B)  $140 
C)  $200 
D)  $320 
E)  $400

Question 17

Which one of the following stocks will have the highest risk premium?

Accepted Answer

A)  Stock A 
B)  Stock B 
C)  Stock C 
D)  Stock D 
E)  Stock E 
A)  Stock A 
B)  Stock B 
C)  Stock C 
D)  Stock D 
E)  Stock E

Question 18

Unsystematic risk is defined as the risk that:

Accepted Answer

A)  Affects almost every financial asset that is sold in the marketplace. 
B)  Relates to the overall economy, such as inflation and GDP growth. 
C)  Serves as the basis for determining the amount of the risk premium. 
D)  Is derived from an event that affects a single firm or a limited number of assets. 
E)  Is generated by expected news. 
A)  Affects almost every financial asset that is sold in the marketplace. 
B)  Relates to the overall economy, such as inflation and GDP growth. 
C)  Serves as the basis for determining the amount of the risk premium. 
D)  Is derived from an event that affects a single firm or a limited number of assets. 
E)  Is generated by expected news.

Question 19

An investment firm is considering a portfolio with equal weighting in a cyclical stock and a countercyclical stock. It is expected that there will be three economic states; Good, Average and Bad, each with equal probabilities of occurrence. The cyclical stock is expected to have returns of 12%, 5% and 1% in Good, Average and Bad economies respectively. The countercyclical stock is expected to have returns of -8%, 2% and 14% in Good, Average and Bad economies respectively. Given this information, calculate portfolio standard deviation.

Accepted Answer

A)  7.33% 
B)  6.33% 
C)  5.33% 
D)  4.33% 
E)  3.33% 
A)  7.33% 
B)  6.33% 
C)  5.33% 
D)  4.33% 
E)  3.33%

Question 20

Provide a graphical representation of the volatility of two negatively correlated stocks over time.

Accepted Answer

The graph should clo

Exam 13: Return, Risk, and the Security Market Line

The inclusion of thirty highly diverse securities in a portfolio eliminates the bulk of the ___ risk.

An increase in the rate of GDP growth is an example of systematic risk.

A stock has a beta of 1.4 and an expected return of 16%. The risk-free rate is 5%. What is the slope of the Security Market Line?

Standard deviation measures the ____ risk and beta measures the ____ risk of a portfolio.

Which of the following is true concerning diversification? Assume that the securities being considered for selection into a portfolio are not perfectly correlated.

A stock with an actual return that lies above the security market line:

The _____ divided by the beta of the market is equal to the slope of the Security Market Line.

Which one of the following stocks is correctly priced if the risk-free rate of return is 3.2% and the market risk premium is 8.4%?

What is the expected return on a portfolio that is 40% invested in A and 60% invested in B?

Provide a definition for expected return.

The concept of stock correlation shows:

What is the expected return on a portfolio comprised of $8,000 in stock G and $6,000 in stock H if the economy is in a recession?

Assume you are looking at a graph depicting the security market line. If the market risk premium increases, then the:

If world events cause investors to become more risk-averse, we would expect the market risk premium to increase.

The expected return of the portfolio considers the probability of various states of the economy.

Which one of the following stocks will have the highest risk premium?

Unsystematic risk is defined as the risk that:

Provide a graphical representation of the volatility of two negatively correlated stocks over time.

Introduction to Corporate Finance

Financial Statements, Cash Flow, and Taxes

Working With Financial Statements

Long-Term Financial Planning and Corporate Growth

Introduction to Valuation: the Time Value of Money

Discounted Cash Flow Valuation

Interest Rates and Bond Valuation

Stock Valuation

Net Present Value and Other Investment Criteria

Making Capital Investment Decisions

Project Analysis and Evaluation

Lessons From Capital Market History

Cost of Capital

Raising Capital

Financial Leverage and Capital Structure Policy

Dividends and Dividend Policy

Short-Term Finance and Planning

Cash and Liquidity Management

Credit and Inventory Management

International Corporate Finance

Leasing

Mergers and Acquisitions

Enterprise Risk Management

Options and Corporate Securities

Behavioural Finance: Implications for Financial Management

Filters

Standard deviation measures the risk and beta measures the risk of a portfolio.