Question 1

Consider the one-factor APT. The variance of returns on the factor portfolio is 6%. The beta of a well-diversified portfolio on the factor is 1.1. The variance of returns on the well-diversified portfolio is approximately

Accepted Answer

A)  3.6%. 
B)  6.0%. 
C)  7.3%. 
D)  10.1%.

Question 2

Consider the single-factor APT. Stocks A and B have expected returns of 12% and 14%, respectively. The risk-free rate of return is 5%. Stock B has a beta of 1.2. If arbitrage opportunities are ruled out, stock A has a beta of

Accepted Answer

A)  0.67. 
B)  0.93. 
C)  1.30. 
D)  1.69.

Question 3

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

Accepted Answer

A)  a dominance argument. 
B)  the mean-variance efficiency frontier. 
C)  a risk-free arbitrage. 
D)  the capital asset pricing model.

Question 4

Consider the multifactor APT. There are two independent economic factors, F1 and F2. The risk-free rate of return is 6%. The following information is available about two well-diversified portfolios: $$\begin{array} { c c c c } 
\text { Portfolio } & \beta \text { on } \mathrm { F } _ { 1 } & \beta \text { on } \mathrm { F } _ { 2 } & \begin{array} { c } 
\text { Expected } \
\text { Return }
\end{array} \
\text { A } & 1.0 & 2.0 & 19 \% \
\text { B } & 2.0 & 0.0 & 12 \% \
\hline
\end{array}$$ Assuming no arbitrage opportunities exist, the risk premium on the factor F1 portfolio should be

Accepted Answer

A)  3%. 
B)  4%. 
C)  5%. 
D)  6%.

Question 5

Suppose you are working with two factor portfolios, portfolio 1 and portfolio 2. The portfolios have expected returns of 15% and 6%, respectively. Based on this information, what would be the expected return on well-diversified portfolio A, if A has a beta of 0.80 on the first factor and 0.50 on the second factor? The risk-free rate is 3%.

Accepted Answer

A)  15.2% 
B)  14.1% 
C)  13.3% 
D)  10.7% 
E)  8.4%

Question 6

In terms of the risk/return relationship in the APT,

Accepted Answer

A)  only factor risk commands a risk premium in market equilibrium. 
B)  only systematic risk is related to expected returns. 
C)  only nonsystematic risk is related to expected returns. 
D)  only factor risk commands a risk premium in market equilibrium, and only systematic risk is . related to expected returns. 
E)  only factor risk commands a risk premium in market equilibrium, and only nonsystematic risk is related to expected returns.

Question 7

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

Accepted Answer

A)  The SML has a downward slope. 
B)  The SML for the APT shows expected return in relation to portfolio standard deviation. 
C)  The SML for the APT has an intercept equal to the expected return on the market portfolio. 
D)  The benchmark portfolio for the SML may be any well-diversified portfolio. 
E)  The SML has a downward slope, shows expected return in relation to portfolio standard . deviation, and has an intercept equal to the expected return on the market portfolio.

Question 8

The term "arbitrage" refers to

Accepted Answer

A)  buying low and selling high. 
B)  short selling high and buying low. 
C)  earning risk-free economic profits. 
D)  negotiating for favorable brokerage fees. 
E)  hedging your portfolio through the use of options.

Question 9

Which of the following factors might affect stock returns?

Accepted Answer

A)  the business cycle 
B)  interest rate fluctuations 
C)  inflation rates 
D)  All of the options.

Question 10

A professional who searches for mispriced securities in specific areas such as merger-target stocks, rather than one who seeks strict (risk-free) arbitrage opportunities is engaged in

Accepted Answer

A)  pure arbitrage. 
B)  risk arbitrage. 
C)  option arbitrage. 
D)  equilibrium arbitrage.

Question 11

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

Accepted Answer

A)  3.6%. 
B)  6.0%. 
C)  7.3%. 
D)  14.1%.

Question 12

A well-diversified portfolio is defined as

Accepted Answer

A) one that is diversified over a large enough number of securities that the nonsystematic variance is essentially zero. 
B)  one that contains securities from at least three different industry sectors. 
C)  a portfolio whose factor beta equals 1.0. 
D)  a portfolio that is equally weighted.

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