Question 1

Which of the following statements is most correct?

Accepted Answer

A) Usually higher expected returns are associated with higher risk premiums. 
B) Usually higher risk premiums are associated with lower expected returns. 
C) Usually lower expected returns are associated with higher risk premiums. 
D) Usually expected returns are not associated with risk premiums. 
A) Usually higher expected returns are associated with higher risk premiums. 
B) Usually higher risk premiums are associated with lower expected returns. 
C) Usually lower expected returns are associated with higher risk premiums. 
D) Usually expected returns are not associated with risk premiums.

Question 2

An individual faces two alternatives for an investment: Asset A has the following probability return schedule:

Accepted Answer

@#IMG-DLM& Asset B has a certain return of 8.0%.If

Question 3

Comparing a lottery where a $1 ticket purchases a chance to win $1 million with another lottery in which a $5,000 ticket purchases a chance to win $5 billion, we notice many people would participate in the first but not the second, even though the odds of winning both lotteries are the same.We can perhaps best explain this outcome by:

Accepted Answer

A) higher expected value for the lottery paying $1 million. 
B) higher expected value for the lottery paying $5 billion. 
C) lower value at risk for the lottery paying $1 million. 
D) higher value at risk for the lottery paying $1 million. 
A) higher expected value for the lottery paying $1 million. 
B) higher expected value for the lottery paying $5 billion. 
C) lower value at risk for the lottery paying $1 million. 
D) higher value at risk for the lottery paying $1 million.

Question 4

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 5

Changes in general economic conditions usually produce:

Accepted Answer

A) systematic risk. 
B) idiosyncratic risk. 
C) risk reduction. 
D) lower risk premiums. 
A) systematic risk. 
B) idiosyncratic risk. 
C) risk reduction. 
D) lower risk premiums.

Question 6

Consider the following two investments.One is a risk-free investment with a $100 return.The other investment pays $2000 20% of the time and a $375 loss the rest of the time.Based on this information, answer the following:
(i) Compute the expected returns and standard deviations on these two investments individually.
(ii) Compute the value at risk for each investment.
(iii) Which investment will risk-averse investors prefer, if either? Which investment will risk- neutral investors prefer, if either?

Accepted Answer

(i) The expected rate of return is $100

Question 7

What would be the standard deviation for a $1000 risk-free asset that returns $1,100?

Accepted Answer

The standard deviation for this asset wo

Question 8

If ABC Inc.and XYZ Inc.have returns that are perfectly positively correlated:

Accepted Answer

A) adding XYZ Inc.to a portfolio that consists of only ABC Inc.will reduce risk. 
B) adding ABC Inc.to a portfolio that includes only XYZ Inc.will increase risk. 
C) adding XYZ Inc.to a portfolio that consists of only ABC Inc.will neither increase nor decrease the risk of the portfolio. 
D) adding XYZ Inc.to a portfolio that consists of only ABC Inc.will neither increase nor decrease idiosyncratic risk but will lower systematic risk. 
A) adding XYZ Inc.to a portfolio that consists of only ABC Inc.will reduce risk. 
B) adding ABC Inc.to a portfolio that includes only XYZ Inc.will increase risk. 
C) adding XYZ Inc.to a portfolio that consists of only ABC Inc.will neither increase nor decrease the risk of the portfolio. 
D) adding XYZ Inc.to a portfolio that consists of only ABC Inc.will neither increase nor decrease idiosyncratic risk but will lower systematic risk.

Question 9

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 10

An investor puts $1,000 into an investment that will return $1,250 one-half of the time and $900 the remainder of the time.The expected return for this investor is:

Accepted Answer

A) $1,075 
B) 5.0% 
C) 7.5% 
D) 15.0% 
A) $1,075 
B) 5.0% 
C) 7.5% 
D) 15.0%

Question 11

An investment pays $1,200 a quarter of the time; $1,000 half of the time; and $800 a quarter of the time.Its expected value and variance respectively are:

Accepted Answer

A) $1,000; 20,000 dollars2 
B) $1,050; 20,000 dollars2 
C) $1,000; 40,000 dollars2 
D) $1,000; 80,000 dollar2 
A) $1,000; 20,000 dollars2 
B) $1,050; 20,000 dollars2 
C) $1,000; 40,000 dollars2 
D) $1,000; 80,000 dollar2

Question 12

Suppose that Fly-By-Night Airlines Inc., has a return of 5% twenty percent of the time and 0% the rest of the time.The expected return from Fly-By-Night is:

Accepted Answer

A) 10%. 
B) 0.1%. 
C) 0.2%. 
D) 1.0%. 
A) 10%. 
B) 0.1%. 
C) 0.2%. 
D) 1.0%.

Question 13

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 14

The difference between standard deviation and value at risk is:

Accepted Answer

A) nothing, they are two names for the same thing. 
B) value at risk is a more common measure in financial circles than is standard deviation. 
C) standard deviation reflects the spread of possible outcomes where value at risk focuses on the value of the worst outcome. 
D) value at risk is expected value times the standard deviation. 
A) nothing, they are two names for the same thing. 
B) value at risk is a more common measure in financial circles than is standard deviation. 
C) standard deviation reflects the spread of possible outcomes where value at risk focuses on the value of the worst outcome. 
D) value at risk is expected value times the standard deviation.

Question 15

The variance of a portfolio of assets:

Accepted Answer

A) decreases as the number of assets increases. 
B) increases as the number of assets increase. 
C) approaches 0 as the number of assets decreases. 
D) approaches 1 as the number of assets increases. 
A) decreases as the number of assets increases. 
B) increases as the number of assets increase. 
C) approaches 0 as the number of assets decreases. 
D) approaches 1 as the number of assets increases.

Question 16

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 17

The main reason for diversification for an investor is to:

Accepted Answer

A) take advantage of the fact that returns of assets are perfectly positively correlated. 
B) take advantage of the fact that returns on assets are not perfectly correlated. 
C) lower transaction costs. 
D) gain from the greater returns that come from greater risk. 
A) take advantage of the fact that returns of assets are perfectly positively correlated. 
B) take advantage of the fact that returns on assets are not perfectly correlated. 
C) lower transaction costs. 
D) gain from the greater returns that come from greater risk.

Question 18

A $600 investment has the following payoff frequency: a quarter of the time it will be $0; three quarters of the time it will pay off $1000.Its standard deviation and value at risk respectively are:

Accepted Answer

A) $750; $600 
B) $433; $600 
C) $0; $1000 
D) $433; $1000 
A) $750; $600 
B) $433; $600 
C) $0; $1000 
D) $433; $1000

Question 19

An individual owns a $100,000 home.She determines that her chances of suffering a fire in any given year to be 1/1000(0.001).She correctly calculates her expected loss in any year to be $100.Explain why this really isn't a good way to measure her potential for loss.

Accepted Answer

While all of her calculations may be acc

Question 20

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.

Exam 5: Understanding Risk

Which of the following statements is most correct?

An individual faces two alternatives for an investment: Asset A has the following probability return schedule:

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.

Changes in general economic conditions usually produce:

What would be the standard deviation for a $1000 risk-free asset that returns $1,100?

If ABC Inc.and XYZ Inc.have returns that are perfectly positively correlated:

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

An investor puts $1,000 into an investment that will return $1,250 one-half of the time and $900 the remainder of the time.The expected return for this investor is:

An investment pays $1,200 a quarter of the time; $1,000 half of the time; and $800 a quarter of the time.Its expected value and variance respectively are:

Suppose that Fly-By-Night Airlines Inc., has a return of 5% twenty percent of the time and 0% the rest of the time.The expected return from Fly-By-Night is:

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?

The difference between standard deviation and value at risk is:

The variance of a portfolio of assets:

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

The main reason for diversification for an investor is to:

A $600 investment has the following payoff frequency: a quarter of the time it will be $0; three quarters of the time it will pay off $1000.Its standard deviation and value at risk respectively are:

An individual owns a $100,000 home.She determines that her chances of suffering a fire in any given year to be 1/1000(0.001).She correctly calculates her expected loss in any year to be $100.Explain why this really isn't a good way to measure her potential for loss.

Diversification is the principle of:

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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