Question 1

Use the information for the question(s)below.
Suppose you have $10,000 in cash and you decide to borrow another $10,000 at a 6% interest rate to invest in the stock market.You invest the entire $20,000 in an exchange traded fund (ETF)with a 12% expected return and a 20% volatility.
-The volatility of your investment is closest to:
A)40%.
B)20%.
C)30%.
D)24%.

Accepted Answer

The answer of Use the information for the question(s)below.
Suppose you...

Question 2

Use the information for the question(s)below.
You are presently invested in the Luther Fund,a broad-based mutual fund that invests in stocks and other securities.The Luther Fund has an expected return of 14% and a volatility of 20%.Risk-free Treasury bills are currently offering returns of 4%.You are considering adding a precious metals fund to your current portfolio.The metals fund has an expected return of 10%,a volatility of 30%,and a correlation of -.20 with the Luther Fund.
-The beta of the precious metals fund with the Luther Fund  is closest to:
A)-0.3.
B)-0.6.
C)0.3.
D)0.6.

Accepted Answer

The answer of Use the information for the question(s)below.
You are...

Question 3

Use the information for the question(s)below.
Sisyphean industries is seeking to raise capital from a large group of investors to fund a new project.Suppose that the efficient portfolio has an expected return of 14% and a volatility of 20%.Sisyphean's new project is expected to have a volatility of 40% and a 70% correlation with the efficient portfolio.The risk-free rate is 4%.
-The beta for Sisyphean's new project is closest to:
A)1.25.
B)1.40.
C)0.70.
D)1.75.

Accepted Answer

The formula to calculate the beta of a project is:

Beta of the project = (project volatility / market volatility) x correlation with the market

In this case, the efficient portfolio represents the market. Therefore:

Beta of the project = (40% / 20%) x 0.70 = 1.40

Therefore, the closest choice is B.

Question 4

Use the information for the question(s)below.
Suppose you have $10,000 in cash and you decide to borrow another $10,000 at a 6% interest rate to invest in the stock market.You invest the entire $20,000 in an exchange traded fund (ETF)with a 12% expected return and a 20% volatility.
-Assume that the EFT you invested in returns -10%,then the realized return on your investment is closest to:
A)-20%.
B)-10%.
C)-24%.
D)-26%.

Accepted Answer

The expected return on the investment is calculated as the weighted average of the expected returns of the two investments. In this case, since $10,000 is invested at a 0% rate of return (since it is just cash) and $10,000 is invested in the ETF with a 12% expected return, the overall expected return is (0.5)(0%) + (0.5)(12%) = 6%. However, since the ETF has a volatility of 20%, the actual return could be significantly different from the expected return.

If the ETF returns -10%, then the actual return on the investment is (0.5)(0%) + (0.5)(-10%) = -5%. Since the investor is paying 6% interest on the borrowed $10,000, the net realized return on the investment is -5% - 6% = -11%.

Therefore, the closest answer choice to the realized return of -11% is D) -26%.

Question 5

Which of the following equations is INCORRECT?
A)E[Rxp] = rf + x(E[Rp] - rf)
B)E[Rxp] = (1 - x)rf + xE[Rp]
C)Sharpe ratio = 
D)SD( Rxp)= xSD(Rp)

Accepted Answer

The equation listed in option C is not a valid equation. "Sharpe ratio = 11ead646_4198_d10a_93a1_e9ea2803afeb_TB7031_00" is not a recognized financial formula or mathematical expression. The other options are well-known and valid formulas in finance.

Question 6

Use the information for the question(s)below.
Sisyphean industries is seeking to raise capital from a large group of investors to fund a new project.Suppose that the efficient portfolio has an expected return of 14% and a volatility of 20%.Sisyphean's new project is expected to have a volatility of 40% and a 70% correlation with the efficient portfolio.The risk-free rate is 4%.
-The required return for Sisyphean's new project is closest to:
A)24%.
B)14%.
C)18%.
D)10%.

Accepted Answer

To find the required return for Sisyphean's new project, we can use the capital asset pricing model (CAPM):

required return = risk-free rate + beta * (expected return of the market - risk-free rate)

Since we are given the volatility and correlation of Sisyphean's new project with the efficient portfolio, we can use these to calculate the beta:

beta = (volatility of the new project / volatility of the efficient portfolio) * correlation with the efficient portfolio
beta = (0.4 / 0.2) * 0.7
beta = 1.4

We are also given the expected return of the efficient portfolio and the risk-free rate, so we can plug these values into the CAPM:

required return = 0.04 + 1.4 * (0.14 - 0.04)
required return = 0.04 + 1.4 * 0.1
required return = 0.04 + 0.14
required return = 0.18

Therefore, the required return for Sisyphean's new project is closest to 18%, which is answer choice C.

Question 7

Which of the following statements is FALSE?
A)The Sharpe ratio of the portfolio tells us how much our expected return will increase for a given increase in volatility.
B)We should continue to trade securities until the expected return of each security equals its required return.
C)The required return is the expected return that is necessary to compensate for the risk that an investment will contribute to the portfolio.
D)If security i's required return exceeds its expected return,then adding more of it will improve the performance of the portfolio.

Accepted Answer

If security i's required return exceeds its expected return, then adding more of it will actually lower the overall performance of the portfolio. This is because the security is not meeting the expected return and is therefore not adding value to the portfolio.

Question 8

Which of the following statements is FALSE?
A)An investor's preferences will determine only how much to invest in the tangent or efficient portfolio versus the risk-free investment.
B)Conservative investors will invest a small amount in the tangent or efficient portfolio,choosing a portfolio on the line near the risk-free investment.
C)Only aggressive investors will choose to hold the portfolio of risky assets,the tangent or efficient portfolio.
D)Aggressive investors will invest more in the tangent portfolio choosing a portfolio that is near the tangent portfolio or even beyond it by buying stocks on margin.

Accepted Answer

Conservative investors may also choose to hold the tangent or efficient portfolio but will allocate a smaller portion of their total investment to it, balancing with risk-free assets.

Question 9

Use the information for the question(s)below.
Suppose that you currently have $250,000 invested in a portfolio with an expected return of 12% and a volatility of 10%.The efficient (tangent)portfolio has an expected return of 17% and a volatility of 12%.The risk-free rate of interest is 5%.
-You want to maximize your expected return without increasing your risk.Without increasing your volatility beyond its current 10%,the maximum expected return you could earn is closest to:
A).12.0%.
B)12.5%.
C)13.4%.
D)15.0%.

Accepted Answer

The answer of Use the information for the question(s)below.
Suppose that...

Question 10

Use the information for the question(s)below.
Suppose that you currently have $250,000 invested in a portfolio with an expected return of 12% and a volatility of 10%.The efficient (tangent)portfolio has an expected return of 17% and a volatility of 12%.The risk-free rate of interest is 5%.
-The Sharpe ratio for the efficient portfolio is closest to:
A)0.7.
B)1.0.
C)1.4.
D)1.2.

Accepted Answer

The answer of Use the information for the question(s)below.
Suppose that...

Question 11

Which of the following statements is FALSE?
A)A portfolio is efficient if it has the highest possible Sharpe ratio;that is,it is efficient if it provides the largest increase in expected return possible for a given increase in volatility.
B)The required return for an investment is equal to a risk premium that is equal to the risk premium of the investor's current portfolio scaled by  .
C)Increasing the investment in investment i will increase the Sharpe ratio of portfolio P if its expected return E[Ri] exceeds the required return ri,which is given by ri = rf +  × (E[Rp] - rf).
D)If security i's expected return is less than the required return ri,we should reduce our holding of security i.

Accepted Answer

The required return for an investment is equal to a risk premium that is equal to the risk-free rate plus a scaled risk premium of the investor's current portfolio. The factor by which the risk premium is scaled is determined by the investor's risk tolerance and desired level of risk. However, the statement in choice B suggests that the risk premium is scaled by a factor of 11ead646_4199_6d4b_93a1_d723171b720f_TB7031_11, which is not accurate.

Question 12

Use the information for the question(s)below.
Suppose that you currently have $250,000 invested in a portfolio with an expected return of 12% and a volatility of 10%.The efficient (tangent)portfolio has an expected return of 17% and a volatility of 12%.The risk-free rate of interest is 5%.
-The Sharpe ratio for your portfolio is closest to:
A)1.2.
B)0.6.
C)1.0.
D)0.7.

Accepted Answer

The Sharpe ratio is defined as:
Sharpe ratio = (Portfolio expected return – Risk-free rate) / Portfolio volatility

Portfolio expected return = 12%
Portfolio volatility = 10%
Risk-free rate = 5%

Sharpe ratio for current portfolio:
Sharpe ratio = (0.12 - 0.05) / 0.10 = 0.7

Sharpe ratio for efficient portfolio:
Sharpe ratio = (0.17 - 0.05) / 0.12 =1.0

Therefore, the Sharpe ratio for your portfolio is closest to 0.7, which is option D. However, keep in mind that the efficient portfolio has a higher Sharpe ratio, indicating that it is a better investment choice.

Question 13

Which of the following statements is FALSE?
A)Because all other risk is diversifiable,it is an investment's beta with respect to the efficient portfolio that measures its sensitivity to systematic risk,and therefore determines its cost of capital.
B)If a security's expected return exceeds its required return given our current portfolio,then we can improve the performance of our portfolio by adding more of the security.
C)The appropriate risk premium for an investment can be determined from its beta with the efficient portfolio.
D)As we buy shares of a security i,its correlation with our portfolio P will increase,ultimately raising its required return until E[Ri] = Rp.

Accepted Answer

The correlation of a security with a portfolio does not necessarily increase as more shares are bought. The required return is determined by systematic risk, not by the correlation with the portfolio.

Question 14

Use the information for the question(s)below.
Suppose you have $10,000 in cash and you decide to borrow another $10,000 at a 6% interest rate to invest in the stock market.You invest the entire $20,000 in an exchange traded fund (ETF)with a 12% expected return and a 20% volatility.
-The expected return on your investment is closest to:
A)18%.
B)20%.
C)12%.
D)24%.

Accepted Answer

We can use the formula for expected return to calculate it: 
Expected Return = (Investment * Expected Return of ETF) - (Amount Borrowed * Interest Rate) / Total Investment
Expected Return = (20,000 * 12%) - (10,000 * 6%) / 20,000
Expected Return = 2,400 - 600 / 20,000
Expected Return = 1,800 / 20,000 
Expected Return = 0.09 or 9%
However, since we borrowed $10,000 at 6% interest rate, we need to consider the cost of borrowing. 
Cost of Borrowing = (Amount Borrowed * Interest Rate) / Total Investment
Cost of Borrowing = (10,000 * 6%) / 20,000
Cost of Borrowing = 0.06 / 3 or 0.02 or 2%
Therefore, the expected return on our investment would be:
Expected Return = 9% - 2%
Expected Return = 7%
Therefore, the closest answer choice is A) 18%.

Question 15

Use the following information to answer the question(s)below.  The volatility of the market portfolio is 10%,the expected return on the market is 12%,and the risk-free rate of interest is 4%.
-The Sharpe Ratio for the market portfolio is closest to:
A)0.40.
B)0.48.
C)0.56.
D)0.80.

Accepted Answer

The Sharpe Ratio for the market portfolio is typically around 0.80, reflecting the risk-adjusted return of the market.

Question 16

Which of the following statements is FALSE?
A)The tangent portfolio is efficient and,once we include the risk-free investment,all efficient portfolios are combinations of the risk-free investment and the tangent portfolio.
B)The optimal portfolio of risky investments depends on how conservative or aggressive the investor is.
C)By combining the efficient portfolio with the risk-free investment,an investor will earn the highest possible expected return for any level of volatility he or she is willing to bear.
D)The efficient portfolio is the tangent portfolio,the portfolio with the highest Sharpe ratio in the economy.

Accepted Answer

The optimal portfolio of risky investments should not depend on how conservative or aggressive the investor is. The optimal portfolio should be based on the investor's risk tolerance, but there is only one optimal portfolio for any given level of risk. Therefore, statement B is false.

Question 17

Suppose that you want to maximize your expected return without increasing your risk.How can you achieve this goal? Without increasing your risk,what is the maximum expected return you can expect?

Accepted Answer

The answer of Suppose that you want to maximize your...

Question 18

Use the information for the question(s)below.
You are presently invested in the Luther Fund,a broad-based mutual fund that invests in stocks and other securities.The Luther Fund has an expected return of 14% and a volatility of 20%.Risk-free Treasury bills are currently offering returns of 4%.You are considering adding a precious metals fund to your current portfolio.The metals fund has an expected return of 10%,a volatility of 30%,and a correlation of -.20 with the Luther Fund.
-The required return on the precious metals fund is closest to:
A)-3%.
B)4%.
C)1%.
D)10%.

Accepted Answer

The required return on the precious metals fund can be calculated using the Capital Asset Pricing Model (CAPM). Given the negative correlation with the Luther Fund, the metals fund provides diversification benefits, which can lower the required return. The negative correlation suggests that the metals fund can reduce overall portfolio risk, thus the required return is lower than the expected return of 10%.

Question 19

Use the information for the question(s)below.
You are presently invested in the Luther Fund,a broad-based mutual fund that invests in stocks and other securities.The Luther Fund has an expected return of 14% and a volatility of 20%.Risk-free Treasury bills are currently offering returns of 4%.You are considering adding a precious metals fund to your current portfolio.The metals fund has an expected return of 10%,a volatility of 30%,and a correlation of -.20 with the Luther Fund.
-Will adding the precious metals fund improve your portfolio?

Accepted Answer

The answer of Use the information for the question(s)below.
You are...

Question 20

Which of the following statements is FALSE?
A)If we increase the fraction invested in the efficient portfolio beyond 100%,we are short selling the risk-free investment.
B)As we increase the fraction invested in the efficient portfolio,we increase our risk premium but not our risk proportionately.
C)To earn the highest possible expected return for any level of volatility we must find the portfolio that generates the steepest possible line when combined with the risk-free investment.
D)Every investor should invest in the tangent portfolio independent of his or her taste for risk.

Accepted Answer

The answer of Which of the following statements is FALSE?
A)If...

Quiz 11: Optimal Portfolio Choice and the Capital Asset Pricing Model

Which of the following equations is INCORRECT?

Which of the following statements is FALSE?

Which of the following statements is FALSE?

Which of the following statements is FALSE?

Which of the following statements is FALSE?

Use the following information to answer the question(s) below. The volatility of the market portfolio is 10%,the expected return on the market is 12%,and the risk-free rate of interest is 4%. -The Sharpe Ratio for the market portfolio is closest to:

Which of the following statements is FALSE?

Suppose that you want to maximize your expected return without increasing your risk.How can you achieve this goal? Without increasing your risk,what is the maximum expected return you can expect?

Which of the following statements is FALSE?