Question 1

Stock A has a beta = 0.8, while Stock B has a beta = 1.6. Which of the following statements is most correct?

Accepted Answer

A)  Stock B's required return is double that of Stock A's. 
B)  An equally weighted portfolio of Stock A and Stock B will have a beta less than 1.2. 
C)  If market participants become more risk averse, the required return on Stock B will increase more than the required return for Stock A. 
D)  All of the answers above are correct. 
E)  Answers a and c are correct. 
A)  Stock B's required return is double that of Stock A's. 
B)  An equally weighted portfolio of Stock A and Stock B will have a beta less than 1.2. 
C)  If market participants become more risk averse, the required return on Stock B will increase more than the required return for Stock A. 
D)  All of the answers above are correct. 
E)  Answers a and c are correct. C

Question 2

A stock has an expected return of 12.25 percent. The beta of the stock is 1.15 and the risk-free rate is 5 percent. What is the market risk premium?

Accepted Answer

A)  1.30% 
B)  6.50% 
C)  15.00% 
D)  6.30% 
E)  7.25% 
A)  1.30% 
B)  6.50% 
C)  15.00% 
D)  6.30% 
E)  7.25% D

Question 3

A firm cannot change its beta through any managerial decision because betas are completely market determined.

Accepted Answer

A) True 
 B)False  False

Question 4

Which of the following statements is most correct?

Accepted Answer

A)  Risk refers to the chance that some unfavorable event will occur, and a probability distribution is completely described by a listing of the likelihood of unfavorable events. 
B)  Portfolio diversification reduces the variability of returns on an individual stock. 
C)  When company-specific risk has been diversified, the inherent risk that remains is market risk which is constant for all securities in the market. 
D)  A stock with a beta of -1.0 has zero market risk. 
E)  The SML relates required returns to firms' market risk. The slope and intercept of this line cannot be controlled by the financial manager. 
A)  Risk refers to the chance that some unfavorable event will occur, and a probability distribution is completely described by a listing of the likelihood of unfavorable events. 
B)  Portfolio diversification reduces the variability of returns on an individual stock. 
C)  When company-specific risk has been diversified, the inherent risk that remains is market risk which is constant for all securities in the market. 
D)  A stock with a beta of -1.0 has zero market risk. 
E)  The SML relates required returns to firms' market risk. The slope and intercept of this line cannot be controlled by the financial manager.

Question 5

One key result of applying the Capital Asset Pricing Model is that the risk and return of an individual security should be analyzed by how that security affects the risk and return of the portfolio in which it is held.

Accepted Answer

A) True 
 B)False

Question 6

A portfolio with a beta of minus 2 has the same degree of risk to its holder, relative to the market, as a portfolio with a beta of plus 2. However, the holder of either portfolio could lower his or her risk exposure by buying some "normal" stocks.

Accepted Answer

A) True 
 B)False

Question 7

The realized portfolio return is the weighted average of the relative weights of securities in the portfolio multiplied by their respective expected returns.

Accepted Answer

A) True 
 B)False

Question 8

If you plotted the returns of a given stock against those of the market, and if you found that the slope of the regression line was negative, the CAPM would indicate that the required rate of return on the stock should be less than the risk-free rate for a well-diversified investor, assuming that the observed relationship is expected to continue into the future.

Accepted Answer

A) True 
 B)False

Question 9

Market risk refers to the tendency of a stock to move with the general stock market. A stock with above average market risk will tend to be more volatile than an average stock, and it will definitely have a beta which is greater than 1.0.

Accepted Answer

A) True 
 B)False

Question 10

Risk aversion implies that some securities will go unpurchased in the market even if a large risk premium is paid to investors.

Accepted Answer

A) True 
 B)False

Question 11

Assume that the risk-free rate is 5 percent, and that the market risk premium is 7 percent. If a stock has a required rate of return of 13.75 percent, what is its beta?

Accepted Answer

A)  1.25 
B)  1.35 
C)  1.37 
D)  1.60 
E)  1.96 
A)  1.25 
B)  1.35 
C)  1.37 
D)  1.60 
E)  1.96

Question 12

A security's beta measures its nondiversifiable (or market) risk relative to that of most other securities.

Accepted Answer

A) True 
 B)False

Question 13

Because of differences in the expected returns of different securities, the standard deviation is not always an adequate measure of risk. However, the coefficient of variation will always allow an investor to properly compare the relative risks of any two securities.

Accepted Answer

A) True 
 B)False

Question 14

Which of the following statements is most correct?

Accepted Answer

A)  Portfolio diversification reduces the variability of the returns on the individual stocks held in the portfolio. 
B)  If an investor buys enough stocks, he or she can, through diversification, eliminate virtually all of the non¬market (or company-specific) risk inherent in owning stocks. Indeed, if the portfolio contained all publicly traded stocks, it would be riskless. 
C)  The required return on a firm's common stock is determined by its systematic (or market) risk. If the systematic risk is known, and if that risk is expected to remain constant, then no other information is required to specify the firm's required return. 
D)  A security's beta measures its nondiversifiable (systematic, or market) risk relative to that of an average stock. 
E)  A stock's beta is less relevant as a measure of risk to an investor with a well diversified portfolio than to an investor who holds only that one stock. 
A)  Portfolio diversification reduces the variability of the returns on the individual stocks held in the portfolio. 
B)  If an investor buys enough stocks, he or she can, through diversification, eliminate virtually all of the non¬market (or company-specific) risk inherent in owning stocks. Indeed, if the portfolio contained all publicly traded stocks, it would be riskless. 
C)  The required return on a firm's common stock is determined by its systematic (or market) risk. If the systematic risk is known, and if that risk is expected to remain constant, then no other information is required to specify the firm's required return. 
D)  A security's beta measures its nondiversifiable (systematic, or market) risk relative to that of an average stock. 
E)  A stock's beta is less relevant as a measure of risk to an investor with a well diversified portfolio than to an investor who holds only that one stock.

Question 15

Which of the following statements is most correct?

Accepted Answer

A)  Market participants are able to eliminate virtually all market risk if they hold a large diversified portfolio of stocks. 
B)  Market participants are able to eliminate virtually all company- specific risk if they hold a large diversified portfolio of stocks. 
C)  It is possible to have a situation where the market risk of a single stock is less than that of a well diversified portfolio. 
D)  Answers a and c are correct. 
E)  Answers b and c are correct. 
A)  Market participants are able to eliminate virtually all market risk if they hold a large diversified portfolio of stocks. 
B)  Market participants are able to eliminate virtually all company- specific risk if they hold a large diversified portfolio of stocks. 
C)  It is possible to have a situation where the market risk of a single stock is less than that of a well diversified portfolio. 
D)  Answers a and c are correct. 
E)  Answers b and c are correct.

Question 16

Which of the following statements is incorrect?

Accepted Answer

A)  The slope of the security market line is measured by beta. 
B)  Two securities with the same stand-alone risk can have different betas. 
C)  Company-specific risk can be diversified away. 
D)  The market risk premium is affected by attitudes about risk. 
E)  Higher beta stocks have a higher required return. 
A)  The slope of the security market line is measured by beta. 
B)  Two securities with the same stand-alone risk can have different betas. 
C)  Company-specific risk can be diversified away. 
D)  The market risk premium is affected by attitudes about risk. 
E)  Higher beta stocks have a higher required return.

Question 17

Jane holds a large diversified portfolio of 100 randomly selected stocks and the portfolio's beta = 1.2. Each of the individual stocks in her portfolio has a standard deviation of 20 percent. Jack has the same amount of money invested in a single stock with a beta equal to 1.6 and a standard deviation of 20 percent. Which of the following statements is most correct?

Accepted Answer

A)  Jane's portfolio has a larger amount of company-specific risk since she is holding more stocks in her portfolio. 
B)  Jane has a higher required rate of return, since she is more diversified. 
C)  Jane's portfolio has less market risk since it has a lower beta. 
D)  Statements b and c are correct. 
E)  None of the statements above is correct. 
A)  Jane's portfolio has a larger amount of company-specific risk since she is holding more stocks in her portfolio. 
B)  Jane has a higher required rate of return, since she is more diversified. 
C)  Jane's portfolio has less market risk since it has a lower beta. 
D)  Statements b and c are correct. 
E)  None of the statements above is correct.

Question 18

The tighter the probability distribution of expected future returns, the smaller the risk of a given investment as measured by the standard deviation.

Accepted Answer

A) True 
 B)False

Question 19

The slope of the SML is determined by the value of beta.

Accepted Answer

A) True 
 B)False

Question 20

Which of the following statements is most correct?

Accepted Answer

A)  The slope of the security market line is beta. 
B)  The slope of the security market line is the market risk premium, (rM - rRF). 
C)  If you double a company's beta its required return more than doubles. 
D)  Statements a and c are correct. 
E)  Statements b and c are correct. 
A)  The slope of the security market line is beta. 
B)  The slope of the security market line is the market risk premium, (rM - rRF). 
C)  If you double a company's beta its required return more than doubles. 
D)  Statements a and c are correct. 
E)  Statements b and c are correct.

Exam 2: Risk and Return: Part I

Stock A has a beta = 0.8, while Stock B has a beta = 1.6. Which of the following statements is most correct?

A stock has an expected return of 12.25 percent. The beta of the stock is 1.15 and the risk-free rate is 5 percent. What is the market risk premium?

A firm cannot change its beta through any managerial decision because betas are completely market determined.

Which of the following statements is most correct?

One key result of applying the Capital Asset Pricing Model is that the risk and return of an individual security should be analyzed by how that security affects the risk and return of the portfolio in which it is held.

A portfolio with a beta of minus 2 has the same degree of risk to its holder, relative to the market, as a portfolio with a beta of plus 2. However, the holder of either portfolio could lower his or her risk exposure by buying some "normal" stocks.

The realized portfolio return is the weighted average of the relative weights of securities in the portfolio multiplied by their respective expected returns.

Market risk refers to the tendency of a stock to move with the general stock market. A stock with above average market risk will tend to be more volatile than an average stock, and it will definitely have a beta which is greater than 1.0.

Risk aversion implies that some securities will go unpurchased in the market even if a large risk premium is paid to investors.

Assume that the risk-free rate is 5 percent, and that the market risk premium is 7 percent. If a stock has a required rate of return of 13.75 percent, what is its beta?

A security's beta measures its nondiversifiable (or market) risk relative to that of most other securities.

Because of differences in the expected returns of different securities, the standard deviation is not always an adequate measure of risk. However, the coefficient of variation will always allow an investor to properly compare the relative risks of any two securities.

Which of the following statements is most correct?

Which of the following statements is most correct?

Which of the following statements is incorrect?

The tighter the probability distribution of expected future returns, the smaller the risk of a given investment as measured by the standard deviation.

The slope of the SML is determined by the value of beta.

Which of the following statements is most correct?

An Overview of Financial Management

Risk and Return: Part II

Bond Valuation

Basic Stock Valuation

Financial Options

Accounting for Financial Management

Analysis of Financial Statements

Financial Planning and Forecasting Financial Statements

Determining the Cost of Capital

Corporate Valuation and Value-Based Management

Capital Budgeting: Decision Criteria

Capital Budgeting: Cash Flows and Risk

Real Options

Capital Structure Decisions: Part I

Capital Structure Decisions: Part II

Distributions to Shareholders

Ipos, Investment Banking, and Financial Restructuring

Lease Financing

Hybrid Financing

Working Capital Management

Providing and Obtaining Credit

Other Topics in Working Capital Management

Derivatives and Risk Management

Bankruptcy, Reorganization, and Liquidation

Mergers, Lbos, Divestitures, and Holding Companies

Multinational Financial Management

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