Question 1

In the single-index model represented by the equation ri = E(ri) + βiF + ei, the term ei represents

Accepted Answer

A)  the impact of unanticipated macroeconomic events on security i's return. 
B)  the impact of unanticipated firm-specific events on security i's return. 
C)  the impact of anticipated macroeconomic events on security i's return. 
D)  the impact of anticipated firm-specific events on security i's return. 
E)  the impact of changes in the market on security i's return. 
A)  the impact of unanticipated macroeconomic events on security i's return. 
B)  the impact of unanticipated firm-specific events on security i's return. 
C)  the impact of anticipated macroeconomic events on security i's return. 
D)  the impact of anticipated firm-specific events on security i's return. 
E)  the impact of changes in the market on security i's return.

Question 2

Analysts may use regression analysis to estimate the index model for a stock. When doing so, the intercept of the regression line is an estimate of

Accepted Answer

A)  the α of the asset. 
B)  the β of the asset. 
C)  the σ of the asset. 
D)  the δ of the asset. 
A)  the α of the asset. 
B)  the β of the asset. 
C)  the σ of the asset. 
D)  the δ of the asset.

Question 3

Suppose you held a well-diversified portfolio with a very large number of securities, and that the single index model holds. If the σ of your portfolio was 0.14 and σM was 0.19, the β of the portfolio would be approximately

Accepted Answer

A)  0.74. 
B)  0.80. 
C)  1.25. 
D)  1.56. 
A)  0.74. 
B)  0.80. 
C)  1.25. 
D)  1.56.

Question 4

The security characteristic line (SCL) associated with the single-index model is a plot of

Accepted Answer

A)  the security's returns on the vertical axis and the market index's returns on the horizontal axis. 
B)  the market index's returns on the vertical axis and the security's returns on the horizontal axis. 
C)  the security's excess returns on the vertical axis and the market index's excess returns on the horizontal axis. 
D)  the market index's excess returns on the vertical axis and the security's excess returns on the horizontal axis. 
E)  the security's returns on the vertical axis and Beta on the horizontal axis. 
A)  the security's returns on the vertical axis and the market index's returns on the horizontal axis. 
B)  the market index's returns on the vertical axis and the security's returns on the horizontal axis. 
C)  the security's excess returns on the vertical axis and the market index's excess returns on the horizontal axis. 
D)  the market index's excess returns on the vertical axis and the security's excess returns on the horizontal axis. 
E)  the security's returns on the vertical axis and Beta on the horizontal axis.

Question 5

An analyst estimates the index model for a stock using regression analysis involving total returns. The estimated intercept in the regression equation is 6% and the β is 0.5. The risk-free rate of return is 12%. The true β of the stock is

Accepted Answer

A)  0%. 
B)  3%. 
C)  6%. 
D)  9%. 
A)  0%. 
B)  3%. 
C)  6%. 
D)  9%.

Question 6

If a firm's beta was calculated as 0.8 in a regression equation, a commonly-used adjustment technique would provide an adjusted beta of

Accepted Answer

A)  less than 0.8 but greater than zero. 
B)  between 1.0 and 1.8. 
C)  between 0.8 and 1.0. 
D)  greater than 1.8. 
E)  zero or less. 
A)  less than 0.8 but greater than zero. 
B)  between 1.0 and 1.8. 
C)  between 0.8 and 1.0. 
D)  greater than 1.8. 
E)  zero or less.

Question 7

Assume that stock market returns do not resemble a single-index structure. An investment fund analyzes 150 stocks in order to construct a mean-variance efficient portfolio constrained by 150 investments. They will need to calculate ____________ covariances.

Accepted Answer

A)  12 
B)  150 
C)  22,500 
D)  11,175 
A)  12 
B)  150 
C)  22,500 
D)  11,175

Question 8

As diversification increases, the firm-specific risk of a portfolio approaches

Accepted Answer

A)  0. 
B)  1. 
C)  infinity. 
D)  (n - 1) × n. 
A)  0. 
B)  1. 
C)  infinity. 
D)  (n - 1) × n.

Question 9

Assume that stock market returns do follow a single-index structure. An investment fund analyzes 750 stocks in order to construct a mean-variance efficient portfolio constrained by 750 investments. They will need to calculate ________ estimates of firm-specific variances and ________ estimate/estimate(s) for the variance of the macroeconomic factor.

Accepted Answer

A)  750; 1 
B)  750; 750 
C)  124,750; 1 
D)  124,750; 750 
E)  562,500; 750 
A)  750; 1 
B)  750; 750 
C)  124,750; 1 
D)  124,750; 750 
E)  562,500; 750

Question 10

Consider the single-index model. The alpha of a stock is 0%. The return on the market index is 10%. The risk-free rate of return is 5%. The stock earns a return that exceeds the risk-free rate by 5%, and there are no firm-specific events affecting the stock performance. The β of the stock is

Accepted Answer

A)  0.67. 
B)  0.75. 
C)  1.0. 
D)  1.33. 
E)  1.50. 
A)  0.67. 
B)  0.75. 
C)  1.0. 
D)  1.33. 
E)  1.50.

Question 11

The index model has been estimated for stocks A and B with the following results: RA = 0.03 + 0.7RM + eA.
RB = 0.01 + 0.9RM + eB.
ΣM = 0.35; σ(eA) = 0.20; σ(eB) = 0.10.
The covariance between the returns on stocks A and B is

Accepted Answer

A)  0.0384. 
B)  0.0406. 
C)  0.1920. 
D)  0.0772. 
E)  0.4000. 
A)  0.0384. 
B)  0.0406. 
C)  0.1920. 
D)  0.0772. 
E)  0.4000.

Question 12

Suppose the following equation best describes the evolution of β over time: βt = 0.3 + 0.2βt - 1
If a stock had a β of 0.8 last year, you would forecast the β to be _______ in the coming year.

Accepted Answer

A)  0.46 
B)  0.60 
C)  0.70 
D)  0.94 
A)  0.46 
B)  0.60 
C)  0.70 
D)  0.94

Question 13

The index model was first suggested by

Accepted Answer

A)  Graham. 
B)  Markowitz. 
C)  Miller. 
D)  Sharpe. 
A)  Graham. 
B)  Markowitz. 
C)  Miller. 
D)  Sharpe.

Question 14

As diversification increases, the standard deviation of a portfolio approaches

Accepted Answer

A)  0. 
B)  1. 
C)  infinity. 
D)  the standard deviation of the market portfolio. 
E)  None of the options are correct. 
A)  0. 
B)  1. 
C)  infinity. 
D)  the standard deviation of the market portfolio. 
E)  None of the options are correct.

Question 15

If the index model is valid, _________ would be helpful in determining the covariance between assets GM and GE.

Accepted Answer

A)  βGM 
B)  βGE 
C)  σM 
D)  all of the options 
E)  None of the options are correct. 
A)  βGM 
B)  βGE 
C)  σM 
D)  all of the options 
E)  None of the options are correct.

Question 16

The idea that there is a limit to the reduction of portfolio risk due to diversification is

Accepted Answer

A)  contradicted by both the CAPM and the single-index model. 
B)  contradicted by the CAPM. 
C)  contradicted by the single-index model. 
D)  supported in theory, but not supported empirically. 
E)  supported both in theory and by empirical evidence. 
A)  contradicted by both the CAPM and the single-index model. 
B)  contradicted by the CAPM. 
C)  contradicted by the single-index model. 
D)  supported in theory, but not supported empirically. 
E)  supported both in theory and by empirical evidence.

Question 17

Suppose you held a well-diversified portfolio with a very large number of securities, and that the single index model holds. If the σ of your portfolio was 0.18 and σM was 0.22, the β of the portfolio would be approximately

Accepted Answer

A)  0.64. 
B)  1.19. 
C)  0.82. 
D)  1.56. 
A)  0.64. 
B)  1.19. 
C)  0.82. 
D)  1.56.

Question 18

As diversification increases, the unsystematic risk of a portfolio approaches

Accepted Answer

A)  1. 
B)  0. 
C)  infinity. 
D)  (n - 1) × n. 
A)  1. 
B)  0. 
C)  infinity. 
D)  (n - 1) × n.

Question 19

The index model has been estimated for stocks A and B with the following results: RA = 0.01 + 0.8RM + eA.
RB = 0.02 + 1.1RM + eB.
ΣM = 0.30 σ(eA) = 0.20 σ(eB) = 0.10.
The covariance between the returns on stocks A and B is

Accepted Answer

A)  0.0384. 
B)  0.0406. 
C)  0.1920. 
D)  0.0050. 
E)  0.0792. 
A)  0.0384. 
B)  0.0406. 
C)  0.1920. 
D)  0.0050. 
E)  0.0792.

Question 20

Assume that stock market returns do not resemble a single-index structure. An investment fund analyzes 40 stocks in order to construct a mean-variance efficient portfolio constrained by 40 investments. They will need to calculate ____________ covariances.

Accepted Answer

A)  45 
B)  780 
C)  4,950 
D)  10,000 
A)  45 
B)  780 
C)  4,950 
D)  10,000

Exam 8: Index Models

In the single-index model represented by the equation ri = E(ri) + βiF + ei, the term ei represents

Analysts may use regression analysis to estimate the index model for a stock. When doing so, the intercept of the regression line is an estimate of

Suppose you held a well-diversified portfolio with a very large number of securities, and that the single index model holds. If the σ of your portfolio was 0.14 and σM was 0.19, the β of the portfolio would be approximately

The security characteristic line (SCL) associated with the single-index model is a plot of

An analyst estimates the index model for a stock using regression analysis involving total returns. The estimated intercept in the regression equation is 6% and the β is 0.5. The risk-free rate of return is 12%. The true β of the stock is

If a firm's beta was calculated as 0.8 in a regression equation, a commonly-used adjustment technique would provide an adjusted beta of

Assume that stock market returns do not resemble a single-index structure. An investment fund analyzes 150 stocks in order to construct a mean-variance efficient portfolio constrained by 150 investments. They will need to calculate ____________ covariances.

As diversification increases, the firm-specific risk of a portfolio approaches

Consider the single-index model. The alpha of a stock is 0%. The return on the market index is 10%. The risk-free rate of return is 5%. The stock earns a return that exceeds the risk-free rate by 5%, and there are no firm-specific events affecting the stock performance. The β of the stock is

The index model has been estimated for stocks A and B with the following results: RA = 0.03 + 0.7RM + eA. RB = 0.01 + 0.9RM + eB. ΣM = 0.35; σ(eA) = 0.20; σ(eB) = 0.10. The covariance between the returns on stocks A and B is

Suppose the following equation best describes the evolution of β over time: βt = 0.3 + 0.2βt - 1 If a stock had a β of 0.8 last year, you would forecast the β to be _______ in the coming year.

The index model was first suggested by

As diversification increases, the standard deviation of a portfolio approaches

If the index model is valid, _________ would be helpful in determining the covariance between assets GM and GE.

The idea that there is a limit to the reduction of portfolio risk due to diversification is

Suppose you held a well-diversified portfolio with a very large number of securities, and that the single index model holds. If the σ of your portfolio was 0.18 and σM was 0.22, the β of the portfolio would be approximately

As diversification increases, the unsystematic risk of a portfolio approaches

The index model has been estimated for stocks A and B with the following results: RA = 0.01 + 0.8RM + eA. RB = 0.02 + 1.1RM + eB. ΣM = 0.30 σ(eA) = 0.20 σ(eB) = 0.10. The covariance between the returns on stocks A and B is

Assume that stock market returns do not resemble a single-index structure. An investment fund analyzes 40 stocks in order to construct a mean-variance efficient portfolio constrained by 40 investments. They will need to calculate ____________ covariances.

The Investment Environment

Asset Classes and Financial Instruments

How Securities Are Traded

Mutual Funds and Other Investment Companies

Risk, Return, and the Historical Record

Capital Allocation to Risky Assets

Optimal Risky Portfolios

The Capital Asset Pricing Model

Arbitrage Pricing Theory and Multifactor Models of Risk and Return

The Efficient Market Hypothesis

Behavioral Finance and Technical Analysis

Empirical Evidence on Security Returns

Bond Prices and Yields

The Term Structure of Interest Rates

Managing Bond Portfolios

Macroeconomic and Industry Analysis

Equity Valuation Models

Financial Statement Analysis

Options Markets: Introduction

Option Valuation

Futures Markets

Futures, Swaps, and Risk Management

Portfolio Performance Evaluation

International Diversification

Hedge Funds

The Theory of Active Portfolio Management

Investment Policy and the Framework of the Cfa Institute

Filters

In the single-index model represented by the equation r_i = E(r_i) + β_iF + e_i, the term e_i represents

Suppose you held a well-diversified portfolio with a very large number of securities, and that the single index model holds. If the σ of your portfolio was 0.14 and σ_M was 0.19, the β of the portfolio would be approximately

The index model has been estimated for stocks A and B with the following results: R_A = 0.03 + 0.7R_M + e_A. R_B = 0.01 + 0.9R_M + e_B. Σ_M = 0.35; σ(e_A) = 0.20; σ(e_B) = 0.10. The covariance between the returns on stocks A and B is

Suppose the following equation best describes the evolution of β over time: β_t = 0.3 + 0.2β_t _{- 1} If a stock had a β of 0.8 last year, you would forecast the β to be _______ in the coming year.

Suppose you held a well-diversified portfolio with a very large number of securities, and that the single index model holds. If the σ of your portfolio was 0.18 and σ_M was 0.22, the β of the portfolio would be approximately

The index model has been estimated for stocks A and B with the following results: R_A = 0.01 + 0.8R_M + e_A. R_B = 0.02 + 1.1R_M + e_B. Σ_M = 0.30 σ(e_A) = 0.20 σ(e_B) = 0.10. The covariance between the returns on stocks A and B is