Question 1

The Russian wheat crop fails, driving up wheat prices in the U.S. This is an example of:

Accepted Answer

A)  idiosyncratic risk. 
B)  diversification. 
C)  systematic risk. 
D)  quantifiable risk. 
A)  idiosyncratic risk. 
B)  diversification. 
C)  systematic risk. 
D)  quantifiable risk.

Question 2

The variance of a portfolio containing n assets with independent returns:

Accepted Answer

A)  increases as n increases. 
B)  decreases as n increases. 
C)  is constant for any n greater than two. 
D)  does not change in a predictable way when n increases. 
A)  increases as n increases. 
B)  decreases as n increases. 
C)  is constant for any n greater than two. 
D)  does not change in a predictable way when n increases.

Question 3

If an investment will return $1,500 half of the time and $700 half of the time, the expected value of the investment is:

Accepted Answer

A)  $1,250. 
B)  $1,050. 
C)  $1,100. 
D)  $2,200. 
A)  $1,250. 
B)  $1,050. 
C)  $1,100. 
D)  $2,200.

Question 4

Which of the following investment strategies involves generating a higher expected rate of return through increasing risk?

Accepted Answer

A)  Diversifying 
B)  Hedging risk 
C)  Leverage 
D)  Value at risk 
A)  Diversifying 
B)  Hedging risk 
C)  Leverage 
D)  Value at risk

Question 5

An investor who diversifies by purchasing a 50-50 mix of two stocks that are not perfectly positively correlated will find that the standard deviation of the portfolio is:

Accepted Answer

A)  the sum of the standard deviations of the two individual stocks. 
B)  greater than the sum of the standard deviations of the individual stocks. 
C)  greater than the standard deviation from holding the same balance in only one of these stocks. 
D)  less than the standard deviation from holding the same balance in only one of these stocks. 
A)  the sum of the standard deviations of the two individual stocks. 
B)  greater than the sum of the standard deviations of the individual stocks. 
C)  greater than the standard deviation from holding the same balance in only one of these stocks. 
D)  less than the standard deviation from holding the same balance in only one of these stocks.

Question 6

The greater the standard deviation of an investment the:

Accepted Answer

A)  lower the return. 
B)  greater the risk. 
C)  lower the risk. 
D)  lower the risk and return. 
A)  lower the return. 
B)  greater the risk. 
C)  lower the risk. 
D)  lower the risk and return.

Question 7

Explain why insurance companies may find themselves at times having to refuse business.

Accepted Answer

Insurance companies accept risk from ind

Question 8

In investment matters, generally young workers compared to older workers will:

Accepted Answer

A)  minimize expected return and focus more on variability. 
B)  be less risk-averse. 
C)  have equal concern for expected return and variability. 
D)  be more risk-averse. 
A)  minimize expected return and focus more on variability. 
B)  be less risk-averse. 
C)  have equal concern for expected return and variability. 
D)  be more risk-averse.

Question 9

Diversification is the principle of:

Accepted Answer

A)  eliminating risk. 
B)  reducing the risk we carry to just two. 
C)  holding more than one asset to reduce risk. 
D)  eliminating investments from our portfolio that have idiosyncratic risk. 
A)  eliminating risk. 
B)  reducing the risk we carry to just two. 
C)  holding more than one asset to reduce risk. 
D)  eliminating investments from our portfolio that have idiosyncratic risk.

Question 10

You study horse racing avidly and discover for this year's Kentucky Derby you think you have the field pretty well figured out. In fact, you calculate the expected return and it is the same as the expected return you are getting from the stock market. Is this investment in the race valuable to you?

Accepted Answer

While the opportunity to win at the hors

Question 11

Explain why a company offering homeowners insurance policies would want to insure homes across a wide geographic area.

Accepted Answer

One of the lessons from this chapter is

Question 12

If the probability of an outcome equals one, the outcome:

Accepted Answer

A)  is more likely to occur than the others listed. 
B)  is certain to occur. 
C)  is certain not to occur. 
D)  has unquantifiable risk. 
A)  is more likely to occur than the others listed. 
B)  is certain to occur. 
C)  is certain not to occur. 
D)  has unquantifiable risk.

Question 13

An individual faces two alternatives for an investment: Asset A has the following probability return schedule:
   
Asset B has a certain return of 8.0%. If the individual selects asset A does she violate the principle of risk aversion? Explain.

Accepted Answer

Asset A provides an expected r

Question 14

Which of the following statements is false?

Accepted Answer

A)  Diversification can reduce risk. 
B)  Diversification can reduce risk but only by reducing the expected return. 
C)  Diversification reduces idiosyncratic risk. 
D)  Diversification allocates savings across more than one asset. 
A)  Diversification can reduce risk. 
B)  Diversification can reduce risk but only by reducing the expected return. 
C)  Diversification reduces idiosyncratic risk. 
D)  Diversification allocates savings across more than one asset.

Question 15

Suppose a saver is looking for the opportunity to make a very large return in a very short period of time. Would you recommend diversification for this individual?

Accepted Answer

An individual looking to make a very lar

Question 16

If an investment offered an expected payoff of $100 with $0 variance, you would know that:

Accepted Answer

A)  half of the time the payoff is $100 and the other half it is $0. 
B)  the payoff is always $100. 
C)  half of the time the payoff is $200 and the other half it is $0. 
D)  half of the time the payoff is $200 and the other half it is $50. 
A)  half of the time the payoff is $100 and the other half it is $0. 
B)  the payoff is always $100. 
C)  half of the time the payoff is $200 and the other half it is $0. 
D)  half of the time the payoff is $200 and the other half it is $50.

Question 17

The expected return from a portfolio made up equally of two assets that move perfectly opposite of each other would have a standard deviation equal to:

Accepted Answer

A)  1.0 
B)  -1.0 
C)  0.0 
D)  0.5 
A)  1.0 
B)  -1.0 
C)  0.0 
D)  0.5

Question 18

What is the difference between standard deviation and value at risk? Consider the difference between purchasing a one-year bank CD compared with purchasing a homeowner's insurance policy. Which scenario do you believe is more likely to consider value at risk over standard deviation? Explain.

Accepted Answer

Standard deviation measures the uncertai

Question 19

The risk premium for an investment:

Accepted Answer

A)  is negative for U.S. treasury securities. 
B)  is a fixed amount added to the risk-free return, regardless of the level of risk. 
C)  increases with risk. 
D)  is zero (0) for risk-averse investors. 
A)  is negative for U.S. treasury securities. 
B)  is a fixed amount added to the risk-free return, regardless of the level of risk. 
C)  increases with risk. 
D)  is zero (0) for risk-averse investors.

Question 20

Explain why a riskier asset offers a higher expected return.

Accepted Answer

Due to the higher risk, savers

Exam 5: Understanding Risk

The Russian wheat crop fails, driving up wheat prices in the U.S. This is an example of:

The variance of a portfolio containing n assets with independent returns:

If an investment will return $1,500 half of the time and $700 half of the time, the expected value of the investment is:

Which of the following investment strategies involves generating a higher expected rate of return through increasing risk?

An investor who diversifies by purchasing a 50-50 mix of two stocks that are not perfectly positively correlated will find that the standard deviation of the portfolio is:

The greater the standard deviation of an investment the:

Explain why insurance companies may find themselves at times having to refuse business.

In investment matters, generally young workers compared to older workers will:

Diversification is the principle of:

You study horse racing avidly and discover for this year's Kentucky Derby you think you have the field pretty well figured out. In fact, you calculate the expected return and it is the same as the expected return you are getting from the stock market. Is this investment in the race valuable to you?

Explain why a company offering homeowners insurance policies would want to insure homes across a wide geographic area.

If the probability of an outcome equals one, the outcome:

An individual faces two alternatives for an investment: Asset A has the following probability return schedule: Asset B has a certain return of 8.0%. If the individual selects asset A does she violate the principle of risk aversion? Explain.

Which of the following statements is false?

Suppose a saver is looking for the opportunity to make a very large return in a very short period of time. Would you recommend diversification for this individual?

If an investment offered an expected payoff of $100 with $0 variance, you would know that:

The expected return from a portfolio made up equally of two assets that move perfectly opposite of each other would have a standard deviation equal to:

What is the difference between standard deviation and value at risk? Consider the difference between purchasing a one-year bank CD compared with purchasing a homeowner's insurance policy. Which scenario do you believe is more likely to consider value at risk over standard deviation? Explain.

The risk premium for an investment:

Explain why a riskier asset offers a higher expected return.

An Introduction to Money and the Financial System

Money and the Payments System

Financial Instruments, Financial Markets, and Financial Institutions

Future Value, Present Value and Interest Rates

Bonds, Bond Prices, and the Determination of Interest Rates

The Risk and Term Structure of Interest Rates

Stocks, Stock Markets and Market Efficiency

Derivatives: Futures, Options, and Swaps

Foreign Exchange

The Economics of Financial Intermediation

Depository Institutions: Banks and Bank Management

Financial Industry Structure

Regulating the Financial System

Central Banks in the World Today

The Structure of Central Banks: The Federal Reserve and the European Central Bank

The Central Bank Balance Sheet and the Money Supply Process

Monetary Policy: Stabilizing the Domestic Economy

Exchange Rate Policy and the Central Bank

Money Growth, Money Demand and Modern Monetary Policy

Output, Inflation, and Monetary Policy

Understanding Business Cycle Fluctuations

Modern Monetary Policy and the Challenges Facing Central Bankers

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