Question 1

Which of the following statements is CORRECTσ

Accepted Answer

A)  the sml shows the relationship between companies' required returns and their diversifiable risks. the slope and intercept of this line cannot be influenced by a firm's managers, but the position of the company on the line can be influenced by its managers. 
B)  suppose you plotted the returns of a given stock against those of the market, and 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 investors expect the observed relationship to continue on into the future. 
C)  if investors become less risk averse, the slope of the security market line will increase. 
D)  if a company increases its use of debt, this is likely to cause the slope of its sml to increase, indicating a higher required return on the stock. 
E)  the slope of the sml is determined by the value of beta. 
A)  the sml shows the relationship between companies' required returns and their diversifiable risks. the slope and intercept of this line cannot be influenced by a firm's managers, but the position of the company on the line can be influenced by its managers. 
B)  suppose you plotted the returns of a given stock against those of the market, and 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 investors expect the observed relationship to continue on into the future. 
C)  if investors become less risk averse, the slope of the security market line will increase. 
D)  if a company increases its use of debt, this is likely to cause the slope of its sml to increase, indicating a higher required return on the stock. 
E)  the slope of the sml is determined by the value of beta.

Question 2

Charlie and Lucinda each have $50,000 invested in stock portfolios. Charlie's has a beta of 1.2, an expected return of 10.8%, and a standard deviation of 25%. Lucinda's has a beta of 0.8, an expected return of 9.2%, and a standard deviation that is also 25%. The correlation coefficient, r, between Charlie's and Lucinda's portfolios is zero. If Charlie and Lucinda marry and combine their portfolios, which of the following best describes their combined $100,000 portfolioσ

Accepted Answer

A)  the combined portfolio's beta will be equal to a simple weighted average of the betas of the two individual portfolios, 1.0; its expected return will be equal to a simple weighted average of the expected returns of the two individual portfolios, 10.0%; and its standard deviation will be less than the simple average of the two portfolios' standard deviations, 25%. 
B)  the combined portfolio's expected return will be greater than the simple weighted average of the expected returns of the two individual portfolios, 10.0%. 
C)  the combined portfolio's standard deviation will be greater than the simple average of the two portfolios' standard deviations, 25%. 
D)  the combined portfolio's standard deviation will be equal to a simple average of the two portfolios' standard deviations, 25%. 
E)  the combined portfolio's expected return will be less than the simple weighted average of the expected returns of the two individual portfolios, 10.0%. 
A)  the combined portfolio's beta will be equal to a simple weighted average of the betas of the two individual portfolios, 1.0; its expected return will be equal to a simple weighted average of the expected returns of the two individual portfolios, 10.0%; and its standard deviation will be less than the simple average of the two portfolios' standard deviations, 25%. 
B)  the combined portfolio's expected return will be greater than the simple weighted average of the expected returns of the two individual portfolios, 10.0%. 
C)  the combined portfolio's standard deviation will be greater than the simple average of the two portfolios' standard deviations, 25%. 
D)  the combined portfolio's standard deviation will be equal to a simple average of the two portfolios' standard deviations, 25%. 
E)  the combined portfolio's expected return will be less than the simple weighted average of the expected returns of the two individual portfolios, 10.0%.

Question 3

For markets to be in equilibrium, that is, for there to be no strong pressure for prices to depart from their current levels,

Accepted Answer

A)  the past realized rate of return must be equal to the expected future rate of return; that is, . 
B)  the required rate of return must equal the past realized rate of return; that is, r = . 
C)  the expected rate of return must be equal to the required rate of return; that is, = r. 
D)  all of the above statements must hold for equilibrium to exist; that is = r = . 
E)  none of the above statements is correct. 
A)  the past realized rate of return must be equal to the expected future rate of return; that is, . 
B)  the required rate of return must equal the past realized rate of return; that is, r = . 
C)  the expected rate of return must be equal to the required rate of return; that is, = r. 
D)  all of the above statements must hold for equilibrium to exist; that is = r = . 
E)  none of the above statements is correct.

Question 4

Hazel Morrison, a mutual fund manager, has a $40 million portfolio with a beta of 1.00. The risk-free rate is 4.25%, and the market risk premium is 6.00%. Hazel expects to receive an additional $60 million, which she plans to invest in additional stocks. After investing the additional funds, she wants the fund's required and expected return to be 13.00%. What must the average beta of the new stocks be to achieve the target required rate of return?

Accepted Answer

A)  1.68 
B)  1.76 
C)  1.85 
D)  1.94 
E)  2.04 
A)  1.68 
B)  1.76 
C)  1.85 
D)  1.94 
E)  2.04

Question 5

Donald Gilmore has $100,000 invested in a 2-stock portfolio. $35,000 is invested in Stock X and the remainder is invested in Stock Y. X's beta is 1.50 and Y's beta is 0.70. What is the portfolio's beta?

Accepted Answer

A)  0.65 
B)  0.72 
C)  0.80 
D)  0.89 
E)  0.98 
A)  0.65 
B)  0.72 
C)  0.80 
D)  0.89 
E)  0.98

Question 6

Which of the following statements is CORRECTσ

Accepted Answer

A)  if an investor buys enough stocks, he or she can, through diversification, eliminate all of the diversifiable risk inherent in owning stocks. therefore, if a portfolio contained all publicly traded stocks, it would be essentially riskless. 
B)  the required return on a firm's common stock is, in theory, determined solely by its market risk. if the market 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. 
C)  portfolio diversification reduces the variability of returns (as measured by the standard deviation) of each individual stock held in a portfolio. 
D)  a security's beta measures its non-diversifiable, 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)  if an investor buys enough stocks, he or she can, through diversification, eliminate all of the diversifiable risk inherent in owning stocks. therefore, if a portfolio contained all publicly traded stocks, it would be essentially riskless. 
B)  the required return on a firm's common stock is, in theory, determined solely by its market risk. if the market 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. 
C)  portfolio diversification reduces the variability of returns (as measured by the standard deviation) of each individual stock held in a portfolio. 
D)  a security's beta measures its non-diversifiable, 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 7

Stock A has a beta of 0.7, whereas Stock B has a beta of 1.3. Portfolio P has 50% invested in both A and B. Which of the following would occur if the market risk premium increased by 1% but the risk-free rate remained constantσ

Accepted Answer

A)  the required return on both stocks would increase by 1%. 
B)  the required return on portfolio p would remain unchanged. 
C)  the required return on stock a would increase by more than 1%, while the return on stock b would increase by less than 1%. 
D)  the required return for stock a would fall, but the required return for stock b would increase. 
E)  the required return on portfolio p would increase by 1%. 
A)  the required return on both stocks would increase by 1%. 
B)  the required return on portfolio p would remain unchanged. 
C)  the required return on stock a would increase by more than 1%, while the return on stock b would increase by less than 1%. 
D)  the required return for stock a would fall, but the required return for stock b would increase. 
E)  the required return on portfolio p would increase by 1%.

Question 8

In a portfolio of three randomly selected stocks, which of the following could NOT be true; i.e., which statement is falseσ

Accepted Answer

A)  the standard deviation of the portfolio is greater than the standard deviation of one or two of the stocks. 
B)  the beta of the portfolio is lower than the lowest of the three betas. 
C)  the beta of the portfolio is equal to one of the three stock's betas. 
D)  the beta of the portfolio is equal to 1. 
E)  the standard deviation of the portfolio is less than the standard deviation of each of the stocks if they were held in isolation. 
A)  the standard deviation of the portfolio is greater than the standard deviation of one or two of the stocks. 
B)  the beta of the portfolio is lower than the lowest of the three betas. 
C)  the beta of the portfolio is equal to one of the three stock's betas. 
D)  the beta of the portfolio is equal to 1. 
E)  the standard deviation of the portfolio is less than the standard deviation of each of the stocks if they were held in isolation.

Question 9

Fiske Roofing Supplies' stock has a beta of 1.23, its required return is 11.75%, and the risk-free rate is 4.30%. What is the required rate of return on the market?(Hint: First find the market risk premium.)

Accepted Answer

A)  10.36% 
B)  10.62% 
C)  10.88% 
D)  11.15% 
E)  11.43% 
A)  10.36% 
B)  10.62% 
C)  10.88% 
D)  11.15% 
E)  11.43%

Question 10

Suppose that Federal Reserve actions have caused an increase in the risk-free rate, rRF. Meanwhile, investors are afraid of a recession, so the market risk premium, (rM - rRF), has increased. Under these conditions, with other things held constant, which of the following statements is most correct?

Accepted Answer

A)  the required return on all stocks would increase, but the increase would be greatest for stocks with betas of less than 1.0. 
B)  stocks' required returns would change, but so would expected returns, and the result would be no change in stocks' prices. 
C)  the prices of all stocks would decline, but the decline would be greatest for high-beta stocks. 
D)  the prices of all stocks would increase, but the increase would be greatest for high-beta stocks. 
E)  the required return on all stocks would increase by the same amount. 
A)  the required return on all stocks would increase, but the increase would be greatest for stocks with betas of less than 1.0. 
B)  stocks' required returns would change, but so would expected returns, and the result would be no change in stocks' prices. 
C)  the prices of all stocks would decline, but the decline would be greatest for high-beta stocks. 
D)  the prices of all stocks would increase, but the increase would be greatest for high-beta stocks. 
E)  the required return on all stocks would increase by the same amount.

Question 11

The slope of the SML is determined by investors' aversion to risk. The greater the average investor's risk aversion, the steeper the SML.

Accepted Answer

A) True 
 B)False

Question 12

A stock's beta is more relevant as a measure of risk to an investor who holds only one stock than to an investor who holds a well-diversified portfolio.

Accepted Answer

A) True 
 B)False

Question 13

Which of the following statements is CORRECTσ

Accepted Answer

A)  if you were restricted to investing in publicly traded common stocks, yet you wanted to minimize the riskiness of your portfolio as measured by its beta, then according to the capm theory you should invest an equal amount of money in each stock in the market. that is, if there were 10,000 traded stocks in the world, the least risky possible portfolio would include some shares of each one. 
B)  if you formed a portfolio that consisted of all stocks with betas less than 1.0, which is about half of all stocks, the portfolio would itself have a beta coefficient that is equal to the weighted average beta of the stocks in the portfolio, and that portfolio would have less risk than a portfolio that consisted of all stocks in the market. 
C)  market risk can be eliminated by forming a large portfolio, and if some treasury bonds are held in the portfolio, the portfolio can be made to be completely riskless. 
D)  a portfolio that consists of all stocks in the market would have a required return that is equal to the riskless rate. 
E)  if you add enough randomly selected stocks to a portfolio, you can completely eliminate all of the market risk from the portfolio. 
A)  if you were restricted to investing in publicly traded common stocks, yet you wanted to minimize the riskiness of your portfolio as measured by its beta, then according to the capm theory you should invest an equal amount of money in each stock in the market. that is, if there were 10,000 traded stocks in the world, the least risky possible portfolio would include some shares of each one. 
B)  if you formed a portfolio that consisted of all stocks with betas less than 1.0, which is about half of all stocks, the portfolio would itself have a beta coefficient that is equal to the weighted average beta of the stocks in the portfolio, and that portfolio would have less risk than a portfolio that consisted of all stocks in the market. 
C)  market risk can be eliminated by forming a large portfolio, and if some treasury bonds are held in the portfolio, the portfolio can be made to be completely riskless. 
D)  a portfolio that consists of all stocks in the market would have a required return that is equal to the riskless rate. 
E)  if you add enough randomly selected stocks to a portfolio, you can completely eliminate all of the market risk from the portfolio.

Question 14

Which of the following is most likely to occur as you add randomly selected stocks to your portfolio, which currently consists of 3 average stocksσ

Accepted Answer

A)  the expected return of your portfolio is likely to decline. 
B)  the diversifiable risk will remain the same, but the market risk will likely decline. 
C)  both the diversifiable risk and the market risk of your portfolio are likely to decline. 
D)  the total risk of your portfolio should decline, and as a result, the expected rate of return on the portfolio should also decline. 
E)  the diversifiable risk of your portfolio will likely decline, but the expected market risk should not change. 
A)  the expected return of your portfolio is likely to decline. 
B)  the diversifiable risk will remain the same, but the market risk will likely decline. 
C)  both the diversifiable risk and the market risk of your portfolio are likely to decline. 
D)  the total risk of your portfolio should decline, and as a result, the expected rate of return on the portfolio should also decline. 
E)  the diversifiable risk of your portfolio will likely decline, but the expected market risk should not change.

Question 15

You observe the following information regarding Companies X and Y:
σCompany X has a higher expected return than Company Y.
σCompany X has a lower standard deviation of returns than Company Y.
σCompany X has a higher beta than Company Y.
Given this information, which of the following statements is CORRECTσ

Accepted Answer

A)  company x has a lower coefficient of variation than company y. 
B)  company x has less market risk than company y. 
C)  company x's returns will be negative when y's returns are positive. 
D)  company x's stock is a better buy than company y's stock. 
E)  company x has more diversifiable risk than company y. 
A)  company x has a lower coefficient of variation than company y. 
B)  company x has less market risk than company y. 
C)  company x's returns will be negative when y's returns are positive. 
D)  company x's stock is a better buy than company y's stock. 
E)  company x has more diversifiable risk than company y.

Question 16

Consider the following information and then calculate the required rate of return for the Universal Investment Fund, which holds 4 stocks. The market's required rate of return is 13.25%, the risk-free rate is 7.00%, and the Fund's assets are as follows: $\begin{array}{lrr}
\text { Stock }&\text { Investment }&\text { Beta}\
\mathrm{A} & \$ 200,000 & 1.50 \
\mathrm{~B} & \$ 300,000 & -0.50 \
\mathrm{C} & \$ 500,000 & 1.25 \
\mathrm{D} & \$ 1,000,000 & 0.75
\end{array}$

Accepted Answer

A)  9.58% 
B)  10.09% 
C)  10.62% 
D)  11.18% 
E)  11.77% 
A)  9.58% 
B)  10.09% 
C)  10.62% 
D)  11.18% 
E)  11.77%

Question 17

How would the Security Market Line be affected, other things held constant, if the expected inflation rate decreases and investors also become more risk averseσ

Accepted Answer

A)  the x-axis intercept would decline, and the slope would increase. 
B)  the y-axis intercept would increase, and the slope would decline. 
C)  the sml would be affected only if betas changed. 
D)  both the y-axis intercept and the slope would increase, leading to higher required returns. 
E)  the y-axis intercept would decline, and the slope would increase. 
A)  the x-axis intercept would decline, and the slope would increase. 
B)  the y-axis intercept would increase, and the slope would decline. 
C)  the sml would be affected only if betas changed. 
D)  both the y-axis intercept and the slope would increase, leading to higher required returns. 
E)  the y-axis intercept would decline, and the slope would increase.

Question 18

Assume that the risk-free rate remains constant, but the market risk premium declines. Which of the following is most likely to occurσ

Accepted Answer

A) the required return on a stock with beta > 1.0 will increase. B) the return on "the market" will remain constant. C) the return on "the market" will increase. D) the required return on a stock with beta < 1.0 will decline. E) the required return on a stock with beta = 1.0 will not change. A) the required return on a stock with beta > 1.0 will increase. B) the return on "the market" will remain constant. C) the return on "the market" will increase. D) the required return on a stock with beta < 1.0 will decline. E) the required return on a stock with beta = 1.0 will not change.

Question 19

Stocks A, B, and C are similar in some respects: Each has an expected return of 10% and a standard deviation of 25%. Stocks A and B have returns that are independent of one another; i.e., their correlation coefficient, r, equals zero. Stocks A and C have returns that are negatively correlated with one another; i.e., r is less than 0. Portfolio AB is a portfolio with half of its money invested in Stock A and half in Stock B. Portfolio AC is a portfolio with half of its money invested in Stock A and half invested in Stock C. Which of the following statements is CORRECTσ

Accepted Answer

A)  portfolio ac has an expected return that is greater than 25%. 
B)  portfolio ab has a standard deviation that is greater than 25%. 
C)  portfolio ab has a standard deviation that is equal to 25%. 
D)  portfolio ac has a standard deviation that is less than 25%. 
E)  portfolio ac has an expected return that is less than 10%. 
A)  portfolio ac has an expected return that is greater than 25%. 
B)  portfolio ab has a standard deviation that is greater than 25%. 
C)  portfolio ab has a standard deviation that is equal to 25%. 
D)  portfolio ac has a standard deviation that is less than 25%. 
E)  portfolio ac has an expected return that is less than 10%.

Question 20

An individual stock's diversifiable risk, which is measured by its beta, can be lowered by adding more stocks to the portfolio in which the stock is held.

Accepted Answer

A) True 
 B)False

Exam 2: Risk and Return-Part I

Which of the following statements is CORRECTσ

For markets to be in equilibrium, that is, for there to be no strong pressure for prices to depart from their current levels,

Donald Gilmore has $100,000 invested in a 2-stock portfolio. $35,000 is invested in Stock X and the remainder is invested in Stock Y. X's beta is 1.50 and Y's beta is 0.70. What is the portfolio's beta?

Which of the following statements is CORRECTσ

Stock A has a beta of 0.7, whereas Stock B has a beta of 1.3. Portfolio P has 50% invested in both A and B. Which of the following would occur if the market risk premium increased by 1% but the risk-free rate remained constantσ

In a portfolio of three randomly selected stocks, which of the following could NOT be true; i.e., which statement is falseσ

Fiske Roofing Supplies' stock has a beta of 1.23, its required return is 11.75%, and the risk-free rate is 4.30%. What is the required rate of return on the market?(Hint: First find the market risk premium.)

Suppose that Federal Reserve actions have caused an increase in the risk-free rate, rRF. Meanwhile, investors are afraid of a recession, so the market risk premium, (rM - rRF), has increased. Under these conditions, with other things held constant, which of the following statements is most correct?

The slope of the SML is determined by investors' aversion to risk. The greater the average investor's risk aversion, the steeper the SML.

A stock's beta is more relevant as a measure of risk to an investor who holds only one stock than to an investor who holds a well-diversified portfolio.

Which of the following statements is CORRECTσ

Which of the following is most likely to occur as you add randomly selected stocks to your portfolio, which currently consists of 3 average stocksσ

How would the Security Market Line be affected, other things held constant, if the expected inflation rate decreases and investors also become more risk averseσ

Assume that the risk-free rate remains constant, but the market risk premium declines. Which of the following is most likely to occurσ

An individual stock's diversifiable risk, which is measured by its beta, can be lowered by adding more stocks to the portfolio in which the stock is held.

An Overview of Financial Management and the Financial Environment

Risk and Return-Part II

Bond Valuation

Financial Options

Accounting for Financial Management

Analysis of Financial Statements

Basic Stock Valuation

Corporate Valuation and Financial Planning

Corporate Governance

Determining the Cost of Capital

Capital Budgeting: Decision Criteria

Capital Budgeting-Estimating Cash Flows and Analyzing Risk

Real Options

Distributions to Shareholders-Dividends and Repurchases

Capital Structure Decisions

Dynamic Capital Structures and Corporate Valuation

Initial Public Offerings-Investment Banking: and Financial Restructuring

Lease Financing

Hybrid Financing Preferred Stock-Warrants and Convertibles

Supply Chains and Working Capital Management

Providing and Obtaining Credit

Other Topics in Working Capital Management

Enterprise Risk Management

Bankruptcy-Reorganization and Liquidation

Mergers and Corporate Control

Multinational Financial Management

Time Value of Money

Basic Financial Tools: A review

Pension Plan Management

Financial Management in Not for Profit Businesses

Filters