Deck 5: Modern Portfolio Concepts

Question 1

Studies have shown that investing in different industries as well as different countries reduces portfolio risk.

Answer 1

True

Question 2

Correlation is a measure of the relationship between two series of numbers.

Answer 2

True

Question 3

Maximum international diversification can be achieved by investing solely in U.S.multinational corporations.

Answer 3

False

Question 4

Investing globally offers better diversification than investing only domestically.

Question 5

An efficient portfolio maximizes the rate of return without consideration of risk.

Question 6

Portfolio objectives should be established before beginning to invest.

Question 7

Risk can be totally eliminated by combining two assets that are perfectly positively correlated.

Question 8

Marco owns the following portfolio of stocks.What is the expected return on his portfolio?

A) 4.7%
B) 6.6%
C) 8.4%
D) 8.7%

Question 9

Currency exchange rate risk can be hedged using forwards, futures and options.

Question 10

If there is no relationship between the rates of return of two assets over time, these assets are

A) positively correlated.
B) negatively correlated.
C) perfectly negatively correlated.
D) uncorrelated.

Question 11

The transaction costs of investing directly in foreign-currency-denominated assets are relatively low.

Question 12

The opportunities to earn excess returns in foreign investments continue to grow.

Question 13

A portfolio consisting of four stocks is expected to produce returns of 9%, 11%, 3% and 17%, respectively, over the next four years.What is the standard deviation of these expected returns?

A) 5.00%
B) 5.77%
C) 25.00%
D) 33.33%

Question 14

Melissa owns the following portfolio of stocks.What is the return on her portfolio?

A) 8.0%
B) 9.0%
C) 9.8%
D) 10.9%

Question 15

Investing in emerging markets is an effective means of diversifying a U.S.portfolio.

Question 16

Negatively correlated assets reduce risk more than positively correlated assets.

Question 17

Combining uncorrelated assets should

A) increase the overall risk level of a portfolio.
B) decrease the overall risk level of a portfolio.
C) not change the overall risk level of a portfolio.
D) cause the other assets in the portfolio to become positively related.

Question 18

Portfolio objectives should be established independently of tax considerations.

Question 19

If the actual rate of return on an investment portfolio is constant from year to year, the standard deviation of that portfolio is zero.

Question 20

A portfolio that offers the lowest risk for a given level of return is known as an efficient portfolio.

Question 21

Over the long term, a portfolio consisting of an S&P 500 index and an EAFE index will generally produce ________ returns and have ________ risk than a portfolio comprised solely of the S&P 500 index.

A) higher; more
B) higher; less
C) lower; more
D) lower; less

Question 22

Historical betas are always reliable predictors of future return fluctuations.

Question 23

Explain the relationship between correlation, diversification, and risk reduction.

Question 24

For stocks with positive betas, higher risk stocks will have higher beta values.

Question 25

Standard deviation is a measure that indicates how the price of an individual security responds to market forces.

Question 26

Which one of the following will provide the greatest international diversification?

A) directly purchasing a foreign stock
B) purchasing stock of a U.S. multinational firm
C) purchasing an ADS
D) purchasing shares of an international mutual fund

Question 27

It is relatively easy to obtain the beta for actively traded stocks.

Question 28

Market return is the average return on a large sample of stocks such as those in the Standard & Poor's 500 Stock Composite Index.

Question 29

Betas must be positive numbers.

Question 30

The risk of a portfolio consisting of two uncorrelated assets will be

A) equal to zero.
B) greater than the risk of the least risky asset but less than the risk level of the more risky asset.
C) greater than zero but less than the risk of the more risky asset.
D) equal to the average of the risk level of the two assets.

Question 31

The market surrogate is always assigned a beta of 1.0.

Question 32

Diversifiable risk is also called systematic risk.

Question 33

To obtain the maximum reduction in risk, an investor should combine assets that

A) are negatively correlated.
B) are uncorrelated.
C) have a correlation coefficient of positive one.
D) have a correlation coefficient of negative one.

Question 34

Beta measures diversifiable risk while standard deviation measures systematic risk.

Question 35

A stock with a beta of 1.3 is less risky than a stock with a beta of 0.42.

Question 36

American depositary shares (ADS)are

A) shares of foreign companies traded on the U.S. markets.
B) shares of American companies traded on foreign markets.
C) foreign currency deposits in American banks.
D) American currency deposits in foreign banks

Question 37

Which of the following represent unsystematic risks?
I)the president of a company suddenly resigns
II)the economy goes into a recessionary period
III)a company's product is recalled for defects
IV)the Federal Reserve unexpectedly changes interest rates

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

Question 38

Adding stocks with higher standard deviations to a portfolio will necessarily increase the portfolio's risk.

Question 39

Which of the following represent systematic risks?
I)the president of a company suddenly resigns
II)the economy goes into a recessionary period
III)a company's product is recalled for defects
IV)the Federal Reserve unexpectedly changes interest rates

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

Question 40

A beta of 0.5 means that a stock is half as risky the overall market.

Question 41

A stock's beta value is a measure of

A) interest rate risk.
B) total risk.
C) systematic risk.
D) diversifiable risk.

Question 42

Which one of the following conditions can be effectively eliminated through portfolio diversification?

A) a general price increase nationwide
B) an interest rate reduction by the Federal Reserve
C) increased government regulation of auto emissions
D) change in the political party that controls Congress

Question 43

Beta is the slope of the best fit line for the points with coordinates representing the ________ and the ________ for each one of several years.

A) rate of return; level of risk for an individual security
B) rate of inflation; rate of return for an individual security
C) risk level of a stock; market rate of return
D) market rate of return; security's rate of return

Question 44

Which one of the following types of risk cannot be effectively eliminated through portfolio diversification?

A) inflation risk
B) labor problems
C) materials shortages
D) product recalls

Question 45

The CAPM estimates the required rate of return on a stock held as part of a well diversified portfolio.

Question 46

Explain what beta measures and how investors can use beta.

Question 47

The beta of the market is

A) -1.0.
B) 0.0.
C) 1.0.
D) undefined.

Question 48

A measure of systematic risk

A) standard deviation
B) historical average rate of return
C) beta
D) variance

Question 49

Systematic risks

A) can be eliminated by investing in a variety of economic sectors.
B) are forces that affect all investment categories.
C) result from random firm-specific events.
D) are unique to certain investment vehicles.

Question 50

The Dow Jones Industrial Average of thirty stocks is a suitable proxy for market returns in the CAPM.

Question 51

Security A has a beta of .99, security B has a beta of 1.2, and security C has a beta of -1.0.This information indicates that

A) security A has the highest degree of market risk.
B) security B has 20% more systematic risk than the market.
C) security C has the highest degree of market risk.
D) security C would be the best investment if a strong bull market is expected.

Question 52

Beta can be defined as the slope of the line that explains the relationship between

A) the return on a security and the return on the market.
B) the returns on a security and various points in time.
C) the return on stocks and the returns on bonds.
D) the risk free rate of return versus the market rate of return.

Question 53

The market rate of return increased by 8% while the rate of return on XYZ stock increased by 4%.The beta of XYZ stock is

A) -2.0.
B) -0.40.
C) 0.50.
D) 2.0.

Question 54

The basic theory linking risk and return is the Capital Asset Pricing Model.

Question 55

Which of the following statements concerning beta are correct?
I)Adding stocks with high betas to a portfolio increases the portfolio's risk.
II)The higher the beta, the higher the expected return.
III)A beta can be positive, negative, or equal to zero.
IV)A beta of .35 indicates a lower rate of risk than a beta of -0.50.

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

Question 56

When the stock market has bottomed out and is beginning to recover, the best portfolio to own is the one with a beta of

A) 0.0.
B) +0.5.
C) +1.5.
D) +2.0.

Question 57

In designing a portfolio, the only relevant risk is

A) total risk.
B) unsystematic risk.
C) event risk.
D) nondiversifiable risk.

Question 58

The best stock to own when the stock market is at a peak and is expected to decline in value is one with a beta of

A) +1.5.
B) +1.0.
C) -1.0.
D) -0.5.

Question 59

The stock of ABC, Inc.has a beta of 1.10.The market rate of return is expected to increase in value by 5%.ABC stock should

A) increase in value by 0.5%.
B) increase in value by 5.5%.
C) decrease in value by 0.5%.
D) decrease in value by 5.5%.

Question 60

Analysts commonly use the ________ to measure market return.

A) the Dow Jones Industrial Average
B) the rate of return on 10 year Treasury bonds
C) some large, mainstream company such as General Electric
D) the Standard & Poors 500 Index

Question 61

Which of the following factors comprise the CAPM?
I)dividend yield
II)risk-free rate of return
III)the expected rate of return on the market
IV)risk premium for the firm

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

Question 62

The Capital Asset Pricing Model (CAPM)is a mathematical model that depicts the

A) positive relationship between risk and return.
B) standard deviation between a risk premium and an investment's expected return.
C) exact price that an investor should be willing to pay for any given investment.
D) difference between a risk-free return and the expected rate of inflation.

Question 63

Traditional portfolio managers prefer well-known companies because
I)stocks of well-known firms tend to be less risky than stocks of lesser-known firms.
II)individuals are more apt to purchase a mutual fund if it contains stocks of well-known firms.
III)window dressing encourages the purchase of well-known stocks.
IV)institutional investors tend to exhibit "herd-like" behavior.

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

Question 64

Portfolios located on the efficient frontier may not be part of the feasible set.

Question 65

When the Capital Asset Pricing Model is depicted graphically, the result is the

A) standard deviation line.
B) coefficient of variation line.
C) security market line.
D) alpha-beta line.

Question 66

The Franko Company has a beta of 1.09.By what percent will the rate of return on the stock of Franko Company increase if the market rate of return rises by 3%?

A) 1.91%
B) 2.75%
C) 3.27%
D) 4.09%

Question 67

A coefficient of determination of 0.6 means that 40% of the variation in a security's return is related to factors other than the security's relationship to the market.

Question 68

According to the CAPM, the required rate of a return on a stock can be estimated using only beta and the risk-free rate.

Question 69

Arbitrage pricing theory states that the only relevant measure of risk is a stock's sensitivity to overall market returns.

Question 70

Traditional portfolio management

A) concentrates on only the most recent "hot" sectors of the market.
B) typically centers on interindustry diversification.
C) includes only diversified bonds in a laddered portfolio.
D) is based on statistical measures to develop the portfolio plan.

Question 71

What is the expected return on a stock with a beta of 1.09, a market risk premium of 8%, and a risk-free rate of 4%?

A) 4.36%
B) 8.36%
C) 8.72%
D) 12.72%

Question 72

Which of the following measures or concepts are used by modern portfolio theory?
I)beta
II)inter industry diversification
III)efficient frontier
IV)correlation

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

Question 73

Both the efficient frontier and beta are important aspects of MPT.

Question 74

The risk-free rate of return is 2% while the market rate of return is 12%.Parson Company has a historical beta of .85.Today, the beta for Delta Company was adjusted to reflect internal changes in the structure of the company.The new beta is 1.38.What is the amount of the change in the expected rate of return for Delta Company based on this revision to beta?

A) 8.5%
B) 10.5
C) 12.2%
D) 14.0%

Question 75

The Capital Asset Pricing Model (CAPM)includes which of the following in its base assumptions?
I)Investors should earn a minimum return equal to the risk-free rate.
II)Investors in the market should earn a return greater than the return on the overall market.
III)Investors should be rewarded for the amount of risk they assume.
IV)Investors should earn a return located above the Security Market Line.

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

Question 76

OKAY stock has a beta of 0.73.The market as a whole is expected to decline by 20% thereby causing OKAY stock to

A) decline by 14.6%.
B) decline by 20.7%.
C) increase by 14.6%.
D) increase by 20.7%.

Question 77

Which of the following statements about the Security Market Line are correct?
I)The intercept point is the market rate of return.
II)The slope of the line is beta.
III)An investor should accept any return located above the SML line.
IV)A beta of 0.0 indicates the risk-free rate of return.

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

Question 78

Small company stocks are yielding 15.7% while the U.S.Treasury bill has a 4.3% yield and a bank savings account is yielding 3.8%.What is the risk premium on small company stocks?

A) 7.6%
B) 11.4%
C) 11.9%
D) 15.7%

Question 79

The following data has been gathered concerning a particular investment and conditions in the market.

According to the Capital Asset Pricing Model, the required return for this investment is

A) 8.8%.
B) 12.9%.
C) 13.3%.
D) 14.9%.

Question 80

Portfolios located on the efficient frontier are preferable to all other portfolios in the feasible set.