Question 1

When adding a randomly chosen new stock to an existing portfolio, the higher (or more positive) the degree of correlation between the new stock and stocks already in the portfolio, the less the additional stock will reduce the portfolio's risk.

Accepted Answer

A) True 
 B)False  True

Question 2

If a stock's market price exceeds its intrinsic value as seen by the marginal investor, then the investor will sell the stock until its price has fallen down to the level of the investor's estimate of the intrinsic value.

Accepted Answer

A) True 
 B)False

Question 3

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  False

Question 4

The Y-axis intercept of the SML represents the required return of a portfolio with a beta of zero, which is the risk-free rate.

Accepted Answer

A) True 
 B)False

Question 5

If markets are in equilibrium, which of the following conditions will exist?

Accepted Answer

A)   Each stock's expected return should equal its required return as seen by the marginal investor.
B)   All stocks should have the same expected return as seen by the marginal investor.
C)   The expected and required returns on stocks and bonds should be equal.
D)   All stocks should have the same realized return during the coming year.
E)   Each stock's expected return should equal its realized return as seen by the marginal investor.

Question 6

A stock with a beta equal to −1.0 has zero systematic (or market) risk.

Accepted Answer

A) True 
 B)False

Question 7

Which of the following statements is CORRECT?

Accepted Answer

A)   Suppose the returns on two stocks are negatively correlated.One has a beta of 1.2 as determined in a regression analysis using data for the last 5 years, while the other has a beta of −0.6.The returns on the stock with the negative beta must have been negatively correlated with returns on most other stocks during that 5-year period.
B)   Suppose you are managing a stock portfolio, and you have information that leads you to believe the stock market is likely to be very strong in the immediate future.That is, you are convinced that the market is about to rise sharply.You should sell your high-beta stocks and buy low-beta stocks in order to take advantage of the expected market move.
C)   You think that investor sentiment is about to change, and investors are about to become more risk averse.This suggests that you should re-balance your portfolio to include more high-beta stocks.
D)   If the market risk premium remains constant, but the risk-free rate declines, then the required returns on low-beta stocks will rise while those on high-beta stocks will decline.
E)   Paid-in-Full Inc.is in the business of collecting past-due accounts for other companies, i.e., it is a collection agency.Paid-in-Full's revenues, profits, and stock price tend to rise during recessions.This suggests that Paid-in-Full Inc.'s beta should be quite high, say 2.0, because it does so much better than most other companies when the economy is weak.

Question 8

In portfolio analysis, we often use ex post (historical) returns and standard deviations, despite the fact that we are really interested in ex ante (future) data.

Accepted Answer

A) True 
 B)False

Question 9

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 10

Which of the following is NOT a potential problem when estimating and using betas, i.e., which statement is FALSE?

Accepted Answer

A)   Sometimes, during a period when the company is undergoing a change such as toward more leverage or riskier assets, the calculated beta will be drastically different from the "true" or "expected future" beta.
B)   The beta of an "average stock," or "the market," can change over time, sometimes drastically.
C)   Sometimes the past data used to calculate beta do not reflect the likely risk of the firm for the future because conditions have changed.
D)   All of the statements above are true.
E)   The fact that a security or project may not have a past history that can be used as the basis for calculating beta.

Question 11

Gardner Electric has a beta of 0.88 and an expected dividend growth rate of 4.00% per year.The T-bill rate is 4.00%, and the T-bond rate is 5.25%.The annual return on the stock market during the past 4 years was 10.25%.Investors expect the average annual future return on the market to be 12.50%.Using the SML, what is the firm's required rate of return?

Accepted Answer

A)   11.34%
B)   11.63%
C)   11.92%
D)   12.22%
E)   12.52%

Question 12

The CAPM is a multi-period model that takes account of differences in securities' maturities, and it can be used to determine the required rate of return for any given level of systematic risk.

Accepted Answer

A) True 
 B)False  False

Question 13

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

Question 14

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 15

The tighter the probability distribution of its expected future returns, the greater the risk of a given investment as measured by its standard deviation.

Accepted Answer

A) True 
 B)False

Question 16

The $10.00 million mutual fund Henry manages has a beta of 1.05 and a 9.50% required return.The risk-free rate is 4.20%.Henry now receives another $5.00 million, which he invests in stocks with an average beta of 0.65.What is the required rate of return on the new portfolio? (Hint: You must first find the market risk premium, then find the new portfolio beta.)

Accepted Answer

A)   8.83%
B)   9.05%
C)   9.27%
D)   9.51%
E)   9.74%

Question 17

Variance is a measure of the variability of returns, and since it involves squaring the deviation of each actual return from the expected return, it is always larger than its square root, its standard deviation.

Accepted Answer

A) True 
 B)False

Question 18

Managers should under no conditions take actions that increase their firm's risk relative to the market, regardless of how much those actions would increase the firm's expected rate of return.

Accepted Answer

A) True 
 B)False

Question 19

Which of the following statements is CORRECT?

Accepted Answer

A)   Logically, it is easier to estimate the betas associated with capital budgeting projects than the betas associated with stocks, especially if the projects are closely associated with research and development activities.
B)   The beta of an "average stock," which is also "the market beta," can change over time, sometimes drastically.
C)   If a newly issued stock does not have a past history that can be used for calculating beta, then we should always estimate that its beta will turn out to be 1.0.This is especially true if the company finances with more debt than the average firm.
D)   During a period when a company is undergoing a change such as increasing its use of leverage or taking on riskier projects, the calculated historical beta may be drastically different from the beta that will exist in the future.
E)   If a company with a high beta merges with a low-beta company, the best estimate of the new merged company's beta is 1.0.

Question 20

One key conclusion of the Capital Asset Pricing Model is that the value of an asset should be measured by considering both the risk and the expected return of the asset, assuming that the asset is held in a well-diversified portfolio.The risk of the asset held in isolation is not relevant under the CAPM.

Accepted Answer

A) True 
 B)False

Exam 6: Risk and Return

When adding a randomly chosen new stock to an existing portfolio, the higher (or more positive) the degree of correlation between the new stock and stocks already in the portfolio, the less the additional stock will reduce the portfolio's risk.

Correct Answer
verified
True

If a stock's market price exceeds its intrinsic value as seen by the marginal investor, then the investor will sell the stock until its price has fallen down to the level of the investor's estimate of the intrinsic value.

Correct Answer
verified

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.

Correct Answer
verified
False

The Y-axis intercept of the SML represents the required return of a portfolio with a beta of zero, which is the risk-free rate.

Correct Answer
verified

If markets are in equilibrium, which of the following conditions will exist?

Correct Answer
verified

A stock with a beta equal to −1.0 has zero systematic (or market) risk.

Correct Answer
verified

Which of the following statements is CORRECT?

Correct Answer
verified

In portfolio analysis, we often use ex post (historical) returns and standard deviations, despite the fact that we are really interested in ex ante (future) data.

Correct Answer
verified

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

Correct Answer
verified

Which of the following is NOT a potential problem when estimating and using betas, i.e., which statement is FALSE?

Correct Answer
verified

Correct Answer
verified

The CAPM is a multi-period model that takes account of differences in securities' maturities, and it can be used to determine the required rate of return for any given level of systematic risk.

Correct Answer
verified
False

Correct Answer
verified

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.

Correct Answer
verified

The tighter the probability distribution of its expected future returns, the greater the risk of a given investment as measured by its standard deviation.

Correct Answer
verified

Correct Answer
verified

Variance is a measure of the variability of returns, and since it involves squaring the deviation of each actual return from the expected return, it is always larger than its square root, its standard deviation.

Correct Answer
verified

Managers should under no conditions take actions that increase their firm's risk relative to the market, regardless of how much those actions would increase the firm's expected rate of return.

Correct Answer
verified

Which of the following statements is CORRECT?

Correct Answer
verified

Correct Answer
verified

Exam 6: Risk and Return

When adding a randomly chosen new stock to an existing portfolio, the higher (or more positive) the degree of correlation between the new stock and stocks already in the portfolio, the less the additional stock will reduce the portfolio's risk.

Correct AnswerverifiedTrue

If a stock's market price exceeds its intrinsic value as seen by the marginal investor, then the investor will sell the stock until its price has fallen down to the level of the investor's estimate of the intrinsic value.

Correct AnswerverifiedShow Answer

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.

Correct AnswerverifiedFalse

The Y-axis intercept of the SML represents the required return of a portfolio with a beta of zero, which is the risk-free rate.

Correct AnswerverifiedShow Answer

If markets are in equilibrium, which of the following conditions will exist?

Correct AnswerverifiedShow Answer

A stock with a beta equal to −1.0 has zero systematic (or market) risk.

Correct AnswerverifiedShow Answer

Which of the following statements is CORRECT?

Correct AnswerverifiedShow Answer

In portfolio analysis, we often use ex post (historical) returns and standard deviations, despite the fact that we are really interested in ex ante (future) data.

Correct AnswerverifiedShow Answer

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

Correct AnswerverifiedShow Answer

Which of the following is NOT a potential problem when estimating and using betas, i.e., which statement is FALSE?

Correct AnswerverifiedShow Answer

Correct AnswerverifiedShow Answer

The CAPM is a multi-period model that takes account of differences in securities' maturities, and it can be used to determine the required rate of return for any given level of systematic risk.

Correct AnswerverifiedFalse

Correct AnswerverifiedShow Answer

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.

Correct AnswerverifiedShow Answer

The tighter the probability distribution of its expected future returns, the greater the risk of a given investment as measured by its standard deviation.

Correct AnswerverifiedShow Answer

Correct AnswerverifiedShow Answer

Variance is a measure of the variability of returns, and since it involves squaring the deviation of each actual return from the expected return, it is always larger than its square root, its standard deviation.

Correct AnswerverifiedShow Answer

Managers should under no conditions take actions that increase their firm's risk relative to the market, regardless of how much those actions would increase the firm's expected rate of return.

Correct AnswerverifiedShow Answer

Which of the following statements is CORRECT?

Correct AnswerverifiedShow Answer

Correct AnswerverifiedShow Answer

Correct Answer
verified
True

Correct Answer
verified

Correct Answer
verified
False

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified
False

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified