Exam 10: Arbitrage Pricing Theory and Multifactor Models of Risk and Return

Consider the one-factor APT.The variance of returns on the factor portfolio is 9%.The beta of a well-diversified portfolio on the factor is 1.25.The variance of returns on the well-diversified portfolio is approximately

In the context of the Arbitrage Pricing Theory, as a well-diversified portfolio becomes larger its nonsystematic risk approaches

A well-diversified portfolio is defined as

An investor will take as large a position as possible when an equilibrium price relationship is violated.This is an example of

There are three stocks, A, B, and C,You can either invest in these stocks or short sell them.There are three possible states of nature for economic growth in the upcoming year (each equally likely to occur); economic growth may be strong, moderate, or weak.The returns for the upcoming year on stocks A, B, and C for each of these states of nature are given below:

Name three variables that Chen, Roll, and Ross used to measure the impact of macroeconomic factors on security returns.Briefly explain the reasoning behind their model.

An important difference between CAPM and APT is

Advantage(s) of the APT is(are)

Which of the following is false about the security market line (SML) derived from the APT

Which pricing model provides no guidance concerning the determination of the risk premium on factor portfolios

Consider the multifactor APT.The risk premiums on the factor 1 and factor 2 portfolios are 6% and 4%, respectively.The risk-free rate of return is 4%.Stock A has an expected return of 16% and a beta on factor 1 of 1.3.Stock A has a beta on factor 2 of

Consider the single factor APT.Portfolio A has a beta of 0.5 and an expected return of 12%.Portfolio B has a beta of 0.4 and an expected return of 13%.The risk-free rate of return is 5%.If you wanted to take advantage of an arbitrage opportunity, you should take a short position in portfolio _________ and a long position in portfolio _________.

Consider the single factor APT.Portfolio A has a beta of 0.2 and an expected return of 13%.Portfolio B has a beta of 0.4 and an expected return of 15%.The risk-free rate of return is 10%.If you wanted to take advantage of an arbitrage opportunity, you should take a short position in portfolio _________ and a long position in portfolio _________.

In the APT model, what is the nonsystematic standard deviation of an equally weighted portfolio that has an average value of σ(e_i) equal to 20% and 20 securities

Consider the multifactor APT with two factors.Stock A has an expected return of 16.4%, a beta of 1.4 on factor 1 and a beta of .8 on factor 2.The risk premium on the factor 1 portfolio is 3%.The risk-free rate of return is 6%.What is the risk-premium on factor 2 if no arbitrage opportunities exist

Consider the single-factor APT.Stocks A and B have expected returns of 15% and 18%, respectively.The risk-free rate of return is 6%.Stock B has a beta of 1.0.If arbitrage opportunities are ruled out, stock A has a beta of

Multifactor models, such as the one constructed by Chen, Roll, and Ross, can better describe assets' returns by

To take advantage of an arbitrage opportunity, an investor would I) construct a zero investment portfolio that will yield a sure profit. II) construct a zero beta investment portfolio that will yield a sure profit. III) make simultaneous trades in two markets without any net investment. IV) short sell the asset in the low-priced market and buy it in the high-priced market.

Discuss the advantages of the multifactor APT over the single factor APT and the CAPM.What is one shortcoming of the multifactor APT and how does this shortcoming compare to CAPM implications

Multifactor models seek to improve the performance of the single-index model by