Question 1

You run a regression for a stock's return on a market index and find the following Excel output:

The stock is ________ riskier than the typical stock.

Accepted Answer

Beta of 1.32 means that this stock is 32% riskier than the market.

Question 2

If you want to know the portfolio standard deviation for a three-stock portfolio, you will have to ________.

Accepted Answer

To calculate the portfolio standard deviation for a three-stock portfolio, you need to calculate three covariances. This is because the portfolio's risk (standard deviation) depends not only on the individual risks (variances) of the stocks but also on how the stocks' returns move relative to each other, which is captured by the covariances. For a three-stock portfolio, you calculate the covariance between each pair of stocks, resulting in three covariances.

Question 3

You are considering adding a new security to your portfolio. To decide whether you should add the security, you need to know the security's:
I. Expected return
II. Standard deviation
III. Correlation with your portfolio

Accepted Answer

All three factors are important when considering adding a new security to a portfolio. Expected return helps determine the potential profitability of the investment, standard deviation measures the risk associated with the investment, and correlation with the existing portfolio can help determine how the new security will affect portfolio diversification. Therefore, it is best to consider all three factors before making a decision.

Question 4

Which of the following statements is (are) true regarding time diversification?
I. The standard deviation of the average annual rate of return over several years will be smaller than the 1-year standard deviation.
II. For a longer time horizon, uncertainty compounds over a greater number of years.
III. Time diversification does not reduce risk.

Accepted Answer

The answer of Which of the following statements is (are)...

Question 5

Investing in two assets with a correlation coefficient of 1 will reduce which kind of risk?

Accepted Answer

A correlation coefficient of 1 means the two assets move exactly in tandem with each other. Therefore, diversifying by investing in them does not reduce any type of risk, as their returns are perfectly correlated.

Question 6

As you lengthen the time horizon of your investment period and decide to invest for multiple years, you will find that:
I. The average risk per year may be smaller over longer investment horizons.
II. The overall risk of your investment will compound over time.
III. Your overall risk on the investment will fall.

Accepted Answer

The average risk per year may decrease over a longer horizon due to diversification and time smoothing effects, but the overall risk compounds as it accumulates over time. The overall risk does not fall; it is the average annual risk that may decrease.

Question 7

Investing in two assets with a correlation coefficient of -.5 will reduce what kind of risk?

Accepted Answer

Investing in two assets with a correlation coefficient of -.5 will reduce unique risk, also known as firm-specific risk or idiosyncratic risk. However, it will not reduce market risk or systematic risk, which are inherent to the overall market and cannot be diversified away through asset selection. Nondiversifiable risk is another term for systematic risk, so it also will not be reduced.

Question 8

You run a regression for a stock's return on a market index and find the following Excel output:

________ % of the variance is explained by this regression.

Accepted Answer

R² = 12 means 12% of the variance is explained by the regression.

Question 9

What is the standard deviation of a portfolio of two stocks given the following data: Stock A has a standard deviation of 18%. Stock B has a standard deviation of 14%. The portfolio contains 40% of stock A, and the correlation coefficient between the two stocks is -.23.

Accepted Answer

σ = 11eaaae8_8b69_4cdb_a4b8_0501aa6d2e49_TB6474_00 = .097

Question 10

You find that the annual Sharpe ratio for stock A returns is equal to 1.8. For a 3-year holding period, the Sharpe ratio would equal ________.

Accepted Answer

The Sharpe ratio grows at a rate of S1 11eaaae8_8b68_8a7f_a4b8_43536570d1cd_TB6474_00 so the 3-year Sharpe ratio would be 1.8 × 11eaaae8_8b68_8a80_a4b8_a19908f67b84_TB6474_00 = 3.12.

Question 11

Which of the following correlation coefficients will produce the most diversification benefits?

Accepted Answer

A correlation coefficient of -.9 represents a strong negative correlation, which indicates that the two assets are likely to move in opposite directions. This means that including an asset with a correlation coefficient of -.9 will provide the most diversification benefits to a portfolio.

Question 12

You run a regression for a stock's return on a market index and find the following Excel output:

The characteristic line for this stock is Rstock = ________ + ________ Rmarket.

Accepted Answer

Intercept equals 4.05, and slope equals 1.32.

Question 13

What is the standard deviation of a portfolio of two stocks given the following data: Stock A has a standard deviation of 30%. Stock B has a standard deviation of 18%. The portfolio contains 60% of stock A, and the correlation coefficient between the two stocks is -1.

Accepted Answer

11eaaae8_8b69_73ec_a4b8_e77bddf38779_TB6474_00 = .108

Question 14

What is the most likely correlation coefficient between a stock-index mutual fund and the S&P 500?

Accepted Answer

A stock-index mutual fund is designed to track the performance of a specific stock index, such as the S&P 500. Therefore, there should be a strong positive correlation between the two. A correlation coefficient of 1 would indicate a perfect positive correlation, while a coefficient of 0.5 would indicate a strong positive correlation. A correlation coefficient of -1 would indicate a perfect negative correlation, which is unlikely in this case. A coefficient of 0 would indicate no correlation at all, which is also unlikely. Therefore, the best choice is C.

Question 15

Which of the following correlation coefficients will produce the least diversification benefit?

Accepted Answer

A correlation coefficient of 0 indicates complete diversification benefit, while negative correlation coefficients (such as -.6 or -.3) indicate some level of diversification benefit. A positive correlation coefficient (such as .8) indicates that the assets are moving in the same direction, therefore providing the least diversification benefit.

Question 16

You run a regression for a stock's return on a market index and find the following Excel output:

This stock has greater systematic risk than a stock with a beta of ________.

Accepted Answer

.50 < 1.32

Question 17

Decreasing the number of stocks in a portfolio from 50 to 10 would likely ________.

Accepted Answer

Decreasing the number of stocks in a portfolio from 50 to 10 increases the unsystematic risk (also known as diversifiable risk or specific risk) because it reduces the diversification of the portfolio. Unsystematic risk is the risk associated with individual assets, and diversification can reduce this type of risk. By holding fewer stocks, the portfolio is more exposed to the risks specific to those stocks, rather than spreading the risk across a wider array of investments.

Question 18

You run a regression for a stock's return on a market index and find the following Excel output:

The beta of this stock is ________.

Accepted Answer

Beta equals slope coefficient = 1.32

Question 19

Which of the following is a correct expression concerning the formula for the standard deviation of returns of a two-asset portfolio where the correlation coefficient is positive?

Accepted Answer

The answer of Which of the following is a correct...

Question 20

A portfolio of stocks fluctuates when the Treasury yields change. Since this risk cannot be eliminated through diversification, it is called ________.

Accepted Answer

Systematic risk, also known as market risk or non-diversifiable risk, refers to the risk that affects the overall stock market and cannot be eliminated through diversification. It is caused by factors such as changes in interest rates, inflation, and global events that influence the market as a whole. As the question states, changes in Treasury yields affect the portfolio of stocks, which makes it an example of systematic risk. The other choices, firm-specific risk and unique risk, refer to risks that can be diversified away by investing in a variety of stocks or assets.

Quiz 6: Efficient Diversification

You run a regression for a stock's return on a market index and find the following Excel output: The stock is ________ riskier than the typical stock.

If you want to know the portfolio standard deviation for a three-stock portfolio, you will have to ________.

You are considering adding a new security to your portfolio. To decide whether you should add the security, you need to know the security's: I. Expected return II. Standard deviation III. Correlation with your portfolio

Investing in two assets with a correlation coefficient of 1 will reduce which kind of risk?

Investing in two assets with a correlation coefficient of -.5 will reduce what kind of risk?

You run a regression for a stock's return on a market index and find the following Excel output: ________ % of the variance is explained by this regression.

What is the standard deviation of a portfolio of two stocks given the following data: Stock A has a standard deviation of 18%. Stock B has a standard deviation of 14%. The portfolio contains 40% of stock A, and the correlation coefficient between the two stocks is -.23.

You find that the annual Sharpe ratio for stock A returns is equal to 1.8. For a 3-year holding period, the Sharpe ratio would equal ________.

Which of the following correlation coefficients will produce the most diversification benefits?

You run a regression for a stock's return on a market index and find the following Excel output: The characteristic line for this stock is Rstock = + Rmarket.

What is the standard deviation of a portfolio of two stocks given the following data: Stock A has a standard deviation of 30%. Stock B has a standard deviation of 18%. The portfolio contains 60% of stock A, and the correlation coefficient between the two stocks is -1.

What is the most likely correlation coefficient between a stock-index mutual fund and the S&P 500?

Which of the following correlation coefficients will produce the least diversification benefit?

You run a regression for a stock's return on a market index and find the following Excel output: This stock has greater systematic risk than a stock with a beta of ________.

Decreasing the number of stocks in a portfolio from 50 to 10 would likely ________.

You run a regression for a stock's return on a market index and find the following Excel output: The beta of this stock is ________.

Which of the following is a correct expression concerning the formula for the standard deviation of returns of a two-asset portfolio where the correlation coefficient is positive?

A portfolio of stocks fluctuates when the Treasury yields change. Since this risk cannot be eliminated through diversification, it is called ________.