Refer to the graph.If a financial asset's average expected rate of return and beta put it at point F,
A)arbitrage will push down the price of the asset and lower the average expected rate of return to Y.
B)arbitrage will push up the price of the asset and lower the average expected rate of return to Y.
C)a restrictive monetary policy is needed to move the asset onto the Security Market Line.
D)an expansionary monetary policy is needed to move the asset onto the Security Market Line.

Question

Refer to the graph.If a financial asset's average expected rate of return and beta put it at point F,
A)arbitrage will push down the price of the asset and lower the average expected rate of return to Y. 
B)arbitrage will push up the price of the asset and lower the average expected rate of return to Y. 
C)a restrictive monetary policy is needed to move the asset onto the Security Market Line. 
D)an expansionary monetary policy is needed to move the asset onto the Security Market Line.

Quizplus · Accepted Answer

Point F is above the Security Market Line (SML), which means that the asset is overvalued in relation to its risk level (as indicated by its beta). This creates an arbitrage opportunity, where investors can sell the overvalued asset and buy a combination of the risk-free asset and other assets on the SML to achieve the same expected return with less risk. This selling pressure will push down the price of the overvalued asset, leading it to move down along the SML towards point Y. Therefore, the correct answer is B, where arbitrage will push up the price of the asset and lower the average expected rate of return to Y.

Refer to the Graph