What will happen to the security market line (SML)if the following events occur,other things constant: (1)inflation expectations increase,and (2)investors become more risk averse?
A) Shift up and keep the same slope
B) Shift up and have less slope
C) Shift up and have a steeper slope
D) Shift down and keep the same slope
E) Shift down and have less slope

Question

Quizplus · Accepted Answer

An increase in inflation expectations and an increase in investor risk aversion will both cause an increase in the required return on a given investment. This will cause the SML to shift up. In addition, the increase in risk aversion will cause investors to require a higher return for any given level of risk, making the SML steeper. Therefore, the best choice is C- the SML will shift up and have a steeper slope.

What Will Happen to the Security Market Line (SML)if the Following