Question 1

Shirley Paul's 2-stock portfolio has a total value of $100,000 $37,500 is invested in Stock A with a beta of 0.75 and the remainder is invested in Stock B with a beta of 1.42 What is her portfolio's beta?
A) 1.17
B) 1.23
C) 1.29
D) 1.35
E) 1.42

Accepted Answer

To find the beta of the portfolio, we need to use the weighted average of the betas of the individual stocks. The weights are the proportions of the portfolio invested in each stock.

We already know that $37,500 is invested in Stock A and the remainder is invested in Stock B. Therefore, the proportion invested in Stock A is:

Proportion invested in Stock A = $37,500 / ($37,500 + Amount invested in Stock B)

We don't know the amount invested in Stock B yet, but we can express it as:

Amount invested in Stock B = Total portfolio value - $37,500

Amount invested in Stock B = $100,000 - $37,500

Amount invested in Stock B = $62,500

Now we can calculate the proportion invested in Stock A:

Proportion invested in Stock A = $37,500 / ($37,500 + $62,500)

Proportion invested in Stock A = 0.375

The proportion invested in Stock B is:

Proportion invested in Stock B = $62,500 / ($37,500 + $62,500)

Proportion invested in Stock B = 0.625

The portfolio beta is:

Portfolio beta = (proportion invested in Stock A)*(beta of Stock A) + (proportion invested in Stock B)*(beta of Stock B)

Portfolio beta = (0.375)*(0.75) + (0.625)*(1.42)

Portfolio beta = 0.28125 + 0.8875

Portfolio beta = 1.16875

Portfolio beta ≈ 1.17

Therefore, the best choice is A: 1.17.

Question 2

Brodkey Shoes has a beta of 1.30, the T-bill rate is 3.00%, and the T-bond rate is 6.5% The annual return on the stock market during the past 3 years was 15.00%, but investors expect the annual future stock market return to be 13.00% Based on the SML, what is the firm's required return?
A) 13.51%
B) 13.86%
C) 14.21%
D) 14.58%
E) 14.95%

Accepted Answer

The answer of Brodkey Shoes has a beta of 1.30,...

Question 3

Erickson Incis considering a capital budgeting project that has an expected return of 25% and a standard deviation of 30% What is the project's coefficient of variation?
A) 1.20
B) 1.26
C) 1.32
D) 1.39
E) 1.46

Accepted Answer

The answer of Erickson Incis considering a capital budgeting project...

Question 4

Portfolio AB was created by investing in a combination of Stocks A and BStock A has a beta of 1.2 and a standard deviation of 25% Stock B has a beta of 1.4 and a standard deviation of 20% Portfolio AB has a beta of 1.25 and a standard deviation of 18% Which of the following statements is CORRECT?
A) Stock A has more market risk than Stock B but less stand-alone risk.
B) Portfolio AB has more money invested in Stock A than in Stock B.
C) Portfolio AB has the same amount of money invested in each of the two stocks.
D) Portfolio AB has more money invested in Stock B than in Stock A.
E) Stock A has more market risk than Portfolio AB.

Accepted Answer

The answer of Portfolio AB was created by investing in...

Question 5

Zacher Co.'s stock has a beta of 1.40, the risk-free rate is 4.25%, and the market risk premium is 5.50% What is the firm's required rate of return?
A) 11.36%
B) 11.65%
C) 11.95%
D) 12.25%
E) 12.55%

Accepted Answer

Using the Capital Asset Pricing Model (CAPM): 
Required rate of return = Risk-free rate + (Beta x Market risk premium)
= 4.25% + (1.40 x 5.50%) 
= 11.95%

Question 6

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

Accepted Answer

First, we need to calculate the equity risk premium (ERP) as the difference between the expected market return (12.50%) and the risk-free rate (4.00%):
ERP = 12.50% - 4.00% = 8.50%
Next, we need to calculate the required rate of return using the SML equation:
k = Rf + beta * ERP
where k is the required rate of return, Rf is the risk-free rate, beta is the firm's beta, and ERP is the equity risk premium.
Plugging in the given values:
k = 4.00% + 0.88 * 8.50% = 11.63%
Therefore, the answer is B.

Question 7

Barker Corphas a beta of 1.10, the real risk-free rate is 2.00%, investors expect a 3.00% future inflation rate, and the market risk premium is 4.70% What is Barker's required rate of return?
A) 9.43%
B) 9.67%
C) 9.92%
D) 10.17%
E) 10.42%

Accepted Answer

The required rate of return can be calculated using the Capital Asset Pricing Model (CAPM):
Required rate of return = real risk-free rate + (beta x market risk premium) + inflation premium
= 2.00% + (1.10 x 4.70%) + 3.00%
= 10.17%
Therefore, the correct answer is D, 10.17%.

Question 8

Calculate the required rate of return for Everest Expeditions Inc., assuming that (1) investors expect a 4.0% rate of inflation in the future, (2) the real risk-free rate is 3.0%, (3) the market risk premium is 5.0%, (4) the firm has a beta of 1.00, and (5) its realized rate of return has averaged 15.0% over the last 5 years.
A) 10.29%
B) 10.83%
C) 11.40%
D) 12.00%
E) 12.60%

Accepted Answer

The required rate of return can be calculated using the Capital Asset Pricing Model (CAPM):

Required Rate of Return = Real Risk-Free Rate + (Market Risk Premium x Beta) + Inflation Premium

Given:

- Investors expect a 4.0% rate of inflation in the future.
- The real risk-free rate is 3.0%.
- The market risk premium is 5.0%.
- The firm has a beta of 1.00.
- Its realized rate of return has averaged 15.0% over the last 5 years.

Therefore,

Required Rate of Return = 3.0% + (5.0% x 1.00) + 4.0% = 12.0%

The closest answer choice to this is D, 12.00%. Therefore, the best choice is D.

Question 9

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

Accepted Answer

The portfolio's beta is calculated as a weighted average of the betas of the individual stocks, based on the proportion of the total investment in each stock. Here, $35,000 is invested in Stock X with a beta of 1.50, and the remainder ($100,000 - $35,000 = $65,000) is invested in Stock Y with a beta of 0.70. The portfolio's beta is thus (35,000/100,000)*1.50 + (65,000/100,000)*0.70 = 0.525 + 0.455 = 0.98.

Question 10

Jenna holds a diversified $100,000 portfolio consisting of 20 stocks with $5,000 invested in each The portfolio's beta is 1.12 Jenna plans to sell a stock with b = 0.90 and use the proceeds to buy a new stock with b = 1.80 What will the portfolio's new beta be?
A) 1.286
B) 1.255
C) 1.224
D) 1.194
E) 1.165

Accepted Answer

The answer of Jenna holds a diversified $100,000 portfolio consisting...

Question 11

Porter Plumbing's stock had a required return of 11.75% last year, when the risk-free rate was 5.50% and the market risk premium was 4.75% Then an increase in investor risk aversion caused the market risk premium to rise by 2% The risk-free rate and the firm's beta remain unchanged What is the company's new required rate of return? (Hint: First calculate the beta, then find the required return.)
A) 14.38%
B) 14.74%
C) 15.11%
D) 15.49%
E) 15.87%

Accepted Answer

The answer of Porter Plumbing's stock had a required return...

Question 12

Stock A's stock has a beta of 1.30, and its required return is 12.00% Stock B's beta is 0.80 If the risk-free rate is 4.75%, what is the required rate of return on B's stock? (Hint: First find the market risk premium.)
A) 8.76%
B) 8.98%
C) 9.21%
D) 9.44%
E) 9.68%

Accepted Answer

The answer of Stock A's stock has a beta of...

Question 13

McLeod Incis considering an investment that has an expected return of 15% and a standard deviation of 10% What is the investment's coefficient of variation?
A) 0.67
B) 0.73
C) 0.81
D) 0.89
E) 0.98

Accepted Answer

The coefficient of variation (CV) is calculated as the standard deviation divided by the expected return. In this case, CV = 10%/15% = 0.67. Therefore, the best choice is A.

Question 14

Company A has a beta of 0.70, while Company B's beta is 1.20 The required return on the stock market is 11.00%, and the risk-free rate is 4.25% What is the difference between A's and B's required rates of return? (Hint: First find the market risk premium, then find the required returns on the stocks.)
A) 2.75%
B) 2.89%
C) 3.05%
D) 3.21%
E) 3.38%

Accepted Answer

The answer of Company A has a beta of 0.70,...

Question 15

Gretta's portfolio consists of $700,000 invested in a stock that has a beta of 1.2 and $300,000 invested in a stock that has a beta of 0.8The risk-free rate is 6% and the market risk premium is 5%Which of the following statements is CORRECT?
A) The required return on the market is 10%.
B) The portfolio's required return is less than 11%.
C) If the risk-free rate remains unchanged but the market risk premium increases by 2%, Gretta's portfolio's required return will increase by more than 2%.
D) If the market risk premium remains unchanged but expected inflation increases by 2%, Gretta's portfolio's required return will increase by more than 2%.
E) If the stock market is efficient, Gretta's portfolio's expected return should equal the expected return on the market, which is 11%.

Accepted Answer

The answer of Gretta's portfolio consists of $700,000 invested in...

Question 16

Nystrand Corporation's stock has an expected return of 12.25%, a beta of 1.25, and is in equilibrium If the risk-free rate is 5.00%, what is the market risk premium?
A) 5.80%
B) 5.95%
C) 6.09%
D) 6.25%
E) 6.40%

Accepted Answer

The answer of Nystrand Corporation's stock has an expected return...

Question 17

Stocks A and B both have an expected return of 10% and a standard deviation of returns of 25% Stock A has a beta of 0.8 and Stock B has a beta of 1.2 The correlation coefficient, r, between the two stocks is 0.6 Portfolio P has 50% invested in Stock A and 50% invested in B Which of the following statements is CORRECT?
A) Based on the information we are given, and assuming those are the views of the marginal investor, it is apparent that the two stocks are in equilibrium.
B) Portfolio P has more market risk than Stock A but less market risk than B.
C) Stock A should have a higher expected return than Stock B as viewed by the marginal investor.
D) Portfolio P has a coefficient of variation equal to 2.5.
E) Portfolio P has a standard deviation of 25% and a beta of 1.0.

Accepted Answer

The beta is a measure of market risk, with a beta greater than 1 indicating higher market risk and a beta less than 1 indicating lower market risk than the market. Stock A has a beta of 0.8, which means it has less market risk than Stock B, which has a beta of 1.2. Since Portfolio P has 50% invested in Stock A and 50% invested in B, it will have more market risk than Stock A but less market risk than B. Therefore, choice B is correct. The other choices are incorrect. While we can calculate the expected returns and coefficient of variation for the individual stocks and the portfolio, we cannot determine if the stocks are in equilibrium based on the information given, so choice A is incorrect. We do not have any information to suggest that either Stock A or Stock B should have a higher expected return as viewed by the marginal investor, so choice C is incorrect. The coefficient of variation for Portfolio P is not provided, so choice D is incorrect. Finally, while we can calculate the standard deviation and beta of Portfolio P, the question specifically asks for the statement that is CORRECT, and the correct statement is that Portfolio P has more market risk than Stock A but less market risk than B, which is described in choice B, not the standard deviation and beta of Portfolio P, which are provided in choice E, so choice E is incorrect.

Question 18

Knobel holds a well-diversified portfolio that has an expected return of 11.0% and a beta of 1.20 He is in the process of buying 1,000 shares of Syngine Corp at $10 a share and adding it to his portfolio Syngine has an expected return of 13.0% and a beta of 1.50 The total value of Ivan's current portfolio is $90,000 What will the expected return and beta on the portfolio be after the purchase of the Syngine stock?
A) 10.64%; 1.17
B) 11.20%; 1.23
C) 11.76%; 1.29
D) 12.35%; 1.36
E) 12.97%; 1.42

Accepted Answer

The answer of Knobel holds a well-diversified portfolio that has...

Question 19

Assume that the market is in equilibrium and that Portfolio AB has 50% invested in Stock A and 50% invested in Stock BStock A has an expected return of 10% and a standard deviation of 20% Stock B has an expected return of 13% and a standard deviation of 30% The risk-free rate is 5% and the market risk premium, rM − rRF, is 6% The returns of Stock A and Stock B are independent of one another, i.e., the correlation coefficient between them is zero Which of the following statements is CORRECT?
A) Since the two stocks have zero correlation, Portfolio AB is riskless.
B) Stock B's beta is 1.0000.
C) Portfolio AB's required return is 11%.
D) Portfolio AB's standard deviation is 25%.
E) Stock A's beta is 0.8333.

Accepted Answer

The answer of Assume that the market is in equilibrium...

Question 20

Assume that investors have recently become more risk averse, so the market risk premium has increased Also, assume that the risk-free rate and expected inflation have not changed Which of the following is most likely to occur?
A) The required rate of return will decline for stocks whose betas are less than 1.0.
B) The required rate of return on the market, rM, will not change as a result of these changes.
C) The required rate of return for each individual stock in the market will increase by an amount equal to the increase in the market risk
D) The required rate of return on a riskless bond will decline.
E) The required rate of return for an average stock will increase by an amount equal to the increase in the market risk premium.

Accepted Answer

When investors become more risk averse, the market risk premium increases, which leads to an increase in the required rate of return for an average stock. The required rate of return for a riskless bond is not affected by changes in the market risk premium. The required rate of return on the market may change, but this is not stated in the question. The required rate of return for individual stocks will increase by varying amounts depending on their betas, not by an amount equal to the increase in the market risk premium. Therefore, Option E is the most likely outcome.

Quiz 2: Risk and Return: Part I

Shirley Paul's 2-stock portfolio has a total value of $100,000 $37,500 is invested in Stock A with a beta of 0.75 and the remainder is invested in Stock B with a beta of 1.42 What is her portfolio's beta?

Brodkey Shoes has a beta of 1.30, the T-bill rate is 3.00%, and the T-bond rate is 6.5% The annual return on the stock market during the past 3 years was 15.00%, but investors expect the annual future stock market return to be 13.00% Based on the SML, what is the firm's required return?

Erickson Incis considering a capital budgeting project that has an expected return of 25% and a standard deviation of 30% What is the project's coefficient of variation?

Portfolio AB was created by investing in a combination of Stocks A and BStock A has a beta of 1.2 and a standard deviation of 25% Stock B has a beta of 1.4 and a standard deviation of 20% Portfolio AB has a beta of 1.25 and a standard deviation of 18% Which of the following statements is CORRECT?

Zacher Co.'s stock has a beta of 1.40, the risk-free rate is 4.25%, and the market risk premium is 5.50% What is the firm's required rate of return?

Barker Corphas a beta of 1.10, the real risk-free rate is 2.00%, investors expect a 3.00% future inflation rate, and the market risk premium is 4.70% What is Barker's required rate of return?

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?

Jenna holds a diversified $100,000 portfolio consisting of 20 stocks with $5,000 invested in each The portfolio's beta is 1.12 Jenna plans to sell a stock with b = 0.90 and use the proceeds to buy a new stock with b = 1.80 What will the portfolio's new beta be?

Stock A's stock has a beta of 1.30, and its required return is 12.00% Stock B's beta is 0.80 If the risk-free rate is 4.75%, what is the required rate of return on B's stock? (Hint: First find the market risk premium.)

McLeod Incis considering an investment that has an expected return of 15% and a standard deviation of 10% What is the investment's coefficient of variation?

Gretta's portfolio consists of $700,000 invested in a stock that has a beta of 1.2 and $300,000 invested in a stock that has a beta of 0.8The risk-free rate is 6% and the market risk premium is 5%Which of the following statements is CORRECT?

Nystrand Corporation's stock has an expected return of 12.25%, a beta of 1.25, and is in equilibrium If the risk-free rate is 5.00%, what is the market risk premium?

Assume that investors have recently become more risk averse, so the market risk premium has increased Also, assume that the risk-free rate and expected inflation have not changed Which of the following is most likely to occur?