Deck 5: Risk and Return: Past and Prologue

Question 1

Published data on past returns earned by managed funds are required to be ________.

A)dollar-weighted returns
B)geometric returns
C)excess returns
D)index returns

Answer 1

B

Question 2

The dollar-weighted return is the ________.

A)difference between cash inflows and cash outflows
B)arithmetic average return
C)geometric average return
D)internal rate of return

Answer 2

D

Question 3

An investment earns 10% the first year, 15% the second year and loses 12% the third year. Your total compound return over the three years was ________.

A)41.68%
B)11.32%
C)3.64%
D)13.00%

Answer 3

A

Question 4

The ________ measure of returns ignores compounding.

A)geometric average
B)arithmetic average
C)IRR
D)dollar-weighted

Question 5

If you want to measure the performance of your investment in a fund, including the timing of your purchases and redemptions you should calculate the ________.

A)geometric average return
B)arithmetic average return
C)dollar-weighted return
D)index return

Question 6

The geometric average of -12%, 20% and 25% is ________.

A)8.42%
B)11.00%
C)9.70%
D)18.88%

Question 7

You put up $50 at the beginning of the year for an investment. The value of the investment grows 4% and you earn a dividend of $3.50. Your HPR was ________.

A)4.00%
B)3.50%
C)7.00%
D)11.00%

Question 8

The holding period return on a share is equal to ________.

A)the capital gain yield over the period plus the inflation rate
B)the capital gain yield over the period plus the dividend yield
C)the current yield plus the dividend yield
D)the dividend yield plus the risk premium

Question 9

You have an APR of 7.5% with continuous compounding. The EAR is ________.

A)7.50%
B)7.65%
C)7.79%
D)8.25%

Question 10

Which one of the following measures time-weighted returns?
I) Geometric average return
II) Arithmetic average return
III) Dollar-weighted return

A)I only
B)II only
C)I and II only
D)I and III only

Question 11

Suppose you pay $9400 for a $10 000 par Treasury bond maturing in six months. What is the effective annual rate of return for this investment?

A)6.38%
B)12.77%
C)13.17%
D)14.25%

Question 12

You have calculated the historical dollar-weighted return, annual geometric average return and annual arithmetic average return. If you desire to forecast performance for next year, the best forecast will be given by the ________.

A)dollar-weighted return
B)geometric average return
C)arithmetic average return
D)index return

Question 13

Your timing was good last year. You invested more in your portfolio right before prices went up and you sold right before prices went down. In calculating historical performance measures which one of the following will be the largest?

A)Dollar-weighted return
B)Geometric average return
C)Arithmetic average return
D)Mean holding period return

Question 14

The complete portfolio refers to the investment in ________.

A)the risk-free asset
B)the risky portfolio
C)the risk-free asset and the risky portfolio combined
D)the risky portfolio and the index

Question 15

You have calculated the historical dollar-weighted return, annual geometric average return and annual arithmetic average return. You always reinvest your dividends and interest earned on the portfolio. Which method provides the best measure of the actual average historical performance of the investments you have chosen?

A)Dollar-weighted return
B)Geometric average return
C)Arithmetic average return
D)Index return

Question 16

Suppose you pay $9800 for a $10 000 par Treasury bond maturing in two months. What is the annual percentage rate of return for this investment?

A)2.04%
B)12.00%
C)12.24%
D)12.89%

Question 17

Annual percentage rates can be converted to effective annual rates by means of the following formula:

A)(1 + (APR/n))n - 1
B)(APR)(n)
C)(APR/n)
D)(periodic rate)(n)

Question 18

Suppose you pay $9700 for a $10 000 par Treasury bond maturing in three months. What is the holding period return for this investment?

A)3.01%
B)3.09%
C)12.42%
D)16.71%

Question 19

The arithmetic average of -11%, 15% and 20% is ________.

A)15.67%
B)8.00%
C)11.22%
D)6.45%

Question 20

You have an EAR of 9%. The equivalent APR with continuous compounding is ________.

A)8.47%
B)8.62%
C)8.88%
D)9.42%

Question 21

Treasury notes are paying a 4% rate of return. A risk averse investor with a risk aversion of A = 3 should invest in a risky portfolio with a standard deviation of 24% only if the risky portfolio's expected return is at least ________.

A)8.67%
B)9.84%
C)12.64%
D)14.68%

Question 22

Your investment has a 40% chance of earning a 15% rate of return, a 50% chance of earning a 10% rate of return and a 10% chance of losing 3%. What is the standard deviation of this investment?

A)5.14%
B)7.59%
C)9.29%
D)8.43%

Question 23

If you require a real growth in the purchasing power of your investment of 8%, and you expect the rate of inflation over the next year to be 3%, what is the lowest nominal return that you would be satisfied with?

A)3.00%
B)8.00%
C)11.00%
D)11.24%

Question 24

Two assets have the following expected returns and standard deviations when the risk-free rate is 5%: An investor with a risk aversion of A = 3 would find that ________ on a risk-return basis.

A)only Asset A is acceptable
B)only Asset B is acceptable
C)neither Asset A nor Asset B is acceptable
D)both Asset A and Asset B are acceptable

Question 25

The rate of return on ________ is known at the beginning of the holding period while the rate of return on ________ is not known until the end of the holding period.

A)risky assets, Treasury notes
B)Treasury notes, risky assets
C)excess returns, risky assets
D)index assets, bonds

Question 26

Both investors and gamblers take on risk. The difference between an investor and a gambler is that an investor ________.

A)is normally risk neutral
B)requires a risk premium to take on the risk
C)knows he or she will not lose money
D)knows the outcomes at the beginning of the holding period

Question 27

The formula is used to calculate the ________.

A)Sharpe measure
B)Treynor measure
C)Coefficient of variation
D)Real rate of return

Question 28

Your investment has a 20% chance of earning a 30% rate of return, a 50% chance of earning a 10% rate of return and a 30% chance of losing 6%. What is your expected return on this investment?

A)12.8%
B)11.0%
C)8.9%
D)9.2%

Question 29

The excess return is the ________.

A)rate of return that can be earned with certainty
B)rate of return in excess of the Treasury bond rate
C)rate of return to risk aversion
D)index return

Question 30

Historically the best asset for the long-term investor wanting to fend off the threats of inflation and taxes while making his money grow has been ________.

A)shares
B)bonds
C)money market funds
D)Treasury notes

Question 31

An investor invests 70% of her wealth in a risky asset with an expected rate of return of 15% and a variance of 5% and she puts 30% in a Treasury bond that pays 5%. Her portfolio's expected rate of return and standard deviation are ________ and ________ respectively.

A)10.0%, 6.7%
B)12.0%, 22.4%
C)12.0%, 15.7%
D)10.0%, 35.0%

Question 32

You purchased a share for $29. One year later you received $2.25 as dividend and sold the share for $28. Your holding-period return was ________.

A)-3.57%
B)-3.45%
C)4.31%
D)8.03%

Question 33

When calculating the variance of a portfolio's returns, squaring the deviations from the mean results in ________.
I) preventing the sum of the deviations from always equaling zero
II) exaggerating the effects of large positive and negative deviations
III) a number in units of percentage of returns

A)I only
B)I and II only
C)I and III only
D)I, II and III

Question 34

If you are promised a nominal return of 12% on a one year investment, and you expect the rate of inflation to be 3%, what real rate do you expect to earn?

A)5.48%
B)8.74%
C)9.00%
D)12.00%

Question 35

The reward/variability ratio is given by ________.

A)the slope of the capital allocation line
B)the second derivative of the capital allocation line
C)the point at which the second derivative of the investor's indifference curve reaches zero
D)portfolio excess return

Question 36

A portfolio with a 25% standard deviation generated a return of 15% last year when T-notes were paying 4.5%. This portfolio had a Sharpe measure of ________.

A)0.22
B)0.60
C)0.42
D)0.25

Question 37

In the mean-standard deviation graph, the line that connects the risk-free rate and the optimal risky portfolio, P, is called ________.

A)the capital allocation line
B)the indifference curve
C)the investor's utility line
D)the security market line

Question 38

The market risk premium is defined as ________.

A)the difference between the return on an index fund and the return on Treasury notes
B)the difference between the return on a small firm mutual fund and the return on the Standard and Poor's 500 index
C)the difference between the return on the risky asset with the lowest returns and the return on Treasury notes
D)the difference between the return on the highest yielding asset and the lowest yielding asset

Question 39

The holding period return on a share was 25%. Its ending price was $18 and its beginning price was $16. Its cash dividend must have been ________.

A)$0.25
B)$1.00
C)$2.00
D)$4.00

Question 40

One method to forecast the risk premium is to use the ________.

A)coefficient of variation of analysts' earnings forecasts
B)variations in the risk-free rate over time
C)average historical excess returns for the asset under consideration
D)average abnormal return on the index portfolio

Question 41

You are considering investing $1000 in a complete portfolio. The complete portfolio is composed of Treasury notes that pay 5% and a risky portfolio, P, constructed with two risky securities X and Y. The optimal weights of X and Y in P are 60% and 40% respectively. X has an expected rate of return of 14% and Y has an expected rate of return of 10%. To form a complete portfolio with an expected rate of return of 8%, you should invest approximately ________ in the risky portfolio. This will mean you will also invest approximately ________ and ________ of your complete portfolio in security X and Y respectively.

A)0%, 60%, 40%
B)25%, 45%, 30%
C)40%, 24%, 16%
D)50%, 30%, 20%

Question 42

You are considering investing $1000 in a complete portfolio. The complete portfolio is composed of Treasury notes that pay 5% and a risky portfolio, P, constructed with two risky securities X and Y. The optimal weights of X and Y in P are 60% and 40% respectively. X has an expected rate of return of 14% and Y has an expected rate of return of 10%. If you decide to hold 25% of your complete portfolio in the risky portfolio and 75% in the Treasury notes then the dollar values of your positions in X and Y respectively would be ________ and ________.

A)$300, $450
B)$150, $100
C)$100, $150
D)$450, $300

Question 43

Consider the following two investment alternatives. First, a risky portfolio that pays 15% rate of return with a probability of 40% or 5% with a probability of 60%. Second, a Treasury bond that pays 6%. The risk premium on the risky investment is ________.

A)1%
B)3%
C)6%
D)9%

Question 44

You invest $10 000 in a complete portfolio. The complete portfolio is composed of a risky asset with an expected rate of return of 15% and a standard deviation of 21% and a Treasury bond with a rate of return of 5%. How much money should be invested in the risky asset to form a portfolio with an expected return of 11%?

A)$6 000
B)$4 000
C)$7 000
D)$3 000

Question 45

You have the following rates of return for a risky portfolio for several recent years: The annualised average return on this investment is ________.

A)16.15%
B)16.87%
C)21.32%
D)15.60%

Question 46

You have $500 000 available to invest. The risk-free rate as well as your borrowing rate is 8%. The return on the risky portfolio is 16%. If you wish to earn a 22% return, you should ________.

A)invest $125 000 in the risk-free asset
B)invest $375 000 in the risk-free asset
C)borrow $125 000
D)borrow $375 000

Question 47

The price of a share is $55 at the beginning of the year and $50 at the end of the year. If the share paid a $3 dividend and inflation was 3%, what is the real holding period return for the year?

A)-3.64%
B)-6.36%
C)-6.44%
D)-11.74%

Question 48

You invest $1000 in a complete portfolio. The complete portfolio is composed of a risky asset with an expected rate of return of 16% and a standard deviation of 20% and a Treasury bond with a rate of return of 6%. You should invest ________ of your complete portfolio in the risky portfolio if you want your complete portfolio to have a standard deviation of 9%.

A)100%
B)90%
C)45%
D)10%

Question 49

You have the following rates of return for a risky portfolio for several recent years: If you invested $1 000 at the beginning of 2005 your investment at the end of 2008 would be worth ________.

A)$2 176.60
B)$1 785.56
C)$1 645.53
D)$1 247.87

Question 50

You are considering investing $1000 in a complete portfolio. The complete portfolio is composed of Treasury notes that pay 5% and a risky portfolio, P, constructed with two risky securities X and Y. The optimal weights of X and Y in P are 60% and 40% respectively. X has an expected rate of return of 14% and Y has an expected rate of return of 10%. The dollar values of your positions in X, Y, and Treasury notes would be ________, ________ and ________ respectively if you decide to hold a complete portfolio that has an expected return of 8%.

A)$162, $595, $243
B)$243, $162, $595
C)$595, $162, $243
D)$595, $243, $162

Question 51

Consider the following two investment alternatives. First, a risky portfolio that pays 20% rate of return with a probability of 60% or 5% with a probability of 40%. Second, a Treasury bond that pays 6%. If you invest $50 000 in the risky portfolio, your expected profit would be ________.

A)$3 000
B)$7 000
C)$7 500
D)$10 000

Question 52

The Manhawkin Fund has an expected return of 16% and a standard deviation of 20%. The risk-free rate is 4%. What is the reward-to-volatility ratio for the Manhawkin Fund?

A)0.8
B)0.6
C)9.0
D)1.0

Question 53

The holding period return on a share was 32%. Its beginning price was $25 and its cash dividend was $1.50. Its ending price must have been ________.

A)$28.50
B)$33.20
C)$31.50
D)$29.75

Question 54

The return on the risky portfolio is 15%. The risk-free rate as well as the investor's borrowing rate is 10%. The standard deviation of return on the risky portfolio is 20%. If the standard deviation on the complete portfolio is 25%, the expected return on the complete portfolio is ________.

A)6.00%
B)8.75 %
C)10.00%
D)16.25%

Question 55

Which of the following are correct arguments supporting passive investment strategies?
I) Active trading strategies may not guarantee higher returns but guarantee higher costs.
II) Passive investors can free ride on the activity of knowledge investors whose trades force prices to reflect currently available information.
III) Passive investors are guaranteed to earn higher rates of return than active investors over sufficiently long time horizons.

A)I only
B)I and II only
C)II and III only
D)I, II and III

Question 56

You invest $1000 in a complete portfolio. The complete portfolio is composed of a risky asset with an expected rate of return of 16% and a standard deviation of 20% and a Treasury bond with a rate of return of 6%. The slope of the capital allocation line formed with the risky asset and the risk-free asset is ________.

A)1.40
B)0.80
C)0.50
D)0.40

Question 57

You invest $1000 in a complete portfolio. The complete portfolio is composed of a risky asset with an expected rate of return of 16% and a standard deviation of 20% and a Treasury bond with a rate of return of 6%. A portfolio that has an expected value in one year of $1100 could be formed if you place ________ of your money in the risky portfolio and the rest in the risk-free asset.

A)40%
B)55%
C)60%
D)75%

Question 58

You are considering investing $1000 in a complete portfolio. The complete portfolio is composed of Treasury notes that pay 5% and a risky portfolio, P, constructed with two risky securities X and Y. The optimal weights of X and Y in P are 60% and 40% respectively. X has an expected rate of return of 14% and Y has an expected rate of return of 10%. To form a complete portfolio with an expected rate of return of 11%, you should invest ________ of your complete portfolio in Treasury notes.

A)19%
B)25%
C)36%
D)50%