Question 1

NARRBEGIN: Exhibit 7-1
Exhibit 7-1
 
-Given Exhibit 7-1,what is the expected return?

Accepted Answer

0.25*-0.3 + 0.4*0.15 + 0.35*0.55 = 0.1775

Question 2

An investor put 40% of her money in Stock A and 60% in Stock B.Stock A has a beta of 1.2 and Stock B has a beta of 1.6.If the risk-free rate is 5% and the expected return on the market is 12%,what's the investor's expected return?

Accepted Answer

Expected return (stock A)= 5% + 1.2(12%-5%)= 13.4%
Expected return (stock B)= 5% + 1.6(12%-5%)= 16.2%
Portfolio expected return = .4(13.4%)+ .6(16.2%)= 15.08%

Question 3

Expected returns are:

Accepted Answer

Expected returns are inherently unobservable because they are based on forecasts or estimates of future performance, which cannot be seen or measured in advance.

Question 4

A portfolio consists 20% of a risk-free asset and 80% of a stock.The risk-free return is 4%.The stock has an expected return of 15% and a standard deviation of 30%.What's the expected return

Accepted Answer

Portfolio expected return = 20%(4%)+ 80%(15%)= 12.8%

Question 5

A disadvantage of the probabilistic approach to estimating an asset's returns is:

Accepted Answer

The probabilistic approach uses various scenarios and simulations to estimate potential returns, which means that the range of outcomes can be quite broad. This can be a disadvantage because it can be harder to narrow down on a specific estimate or prediction with such a wide range of possibilities.

Question 6

NARRBEGIN: Exhibit 7-2
Exhibit 7-2
 
-Given Exhibit 7-2,what is the expected standard deviation?

Accepted Answer

11ea7e38_8c50_42ff_a2f7_01ed65975ba4_TB2250_00 Note the last column must be multiplied by the probability and then summed for variance

Question 7

NARRBEGIN: Exhibit 7-2
Exhibit 7-2
 
-Given Exhibit 7-2,what is the expected variance?

Accepted Answer

11ea7e38_8c50_1bee_a2f7_1b23c55709e5_TB2250_00 Note the last column must be multiplied by the probability and then summed for variance

Question 8

You have the following data on the securities of three firms:  If the risk-free rate last year was 3%,and the return on the market was 11%,which firm had the best performance on a risk-adjusted basis?

Accepted Answer

Expected return (firm A)= 3% + 0.8(8%)= 9.4% < actual firm A return
Expected return (firm B)= 3% + 1.0(8%)= 11% = actual firm B return
Expected return (firm C)= 3% + 1.2(8%)= 12.6% > actual firm C return
Only firm A beats the market on a risk-adjusted basis.

Question 9

Suppose that over the last 20 years,company XYZ has averaged a return of 13%.Over the same period,the Treasury bond rate has averaged 4%.The current estimate of the Treasury bond rate is 6.5%.Using the historical approach,what is the estimate of XYZ's expected return.

Accepted Answer

Historical Risk Premium = 13% - 4% = 9%
Expected Return = 9% + 6.5% = 15.5%

Question 10

An advantage of the probabilistic approach to estimating an asset's returns is:

Accepted Answer

The probabilistic approach does not assume that the future will look exactly like the past, which is a key advantage over other approaches that rely heavily on historical data. This allows for more flexibility and adaptability in analyzing and predicting asset returns.

Question 11

NARRBEGIN: Exhibit 7-1
Exhibit 7-1
 
-Given Exhibit 7-1,what is the expected standard deviation?

Accepted Answer

11ea7e38_8c50_1bec_a2f7_19b9fef5e3d1_TB2250_00 Note the last column must be multiplied by the probability and then summed for variance

Question 12

Suppose that over the last 30 years,company ABC has averaged a return of 10%.Over the same period,the Treasury bond rate has averaged 3%.The current estimate of the Treasury bond rate is 5%.Using the historical approach,what is the estimate of ABC's expected return.

Accepted Answer

Historical Risk Premium = 10% - 3% = 7%
Expected Return = 7% + 5% = 12%

Question 13

Suppose that over the last 25 years,company DEF has averaged a return of 7.5%.Over the same period,the Treasury bond rate has averaged 1.5%.The current estimate of the Treasury bond rate is 4%.Using the historical approach,what is the estimate of DEF's expected return.

Accepted Answer

Historical Risk Premium = 7.5% - 1.5% = 6%
Expected Return = 6% + 4% = 10%

Question 14

A portfolio has 40% invested in Asset 1,50% invested in Asset 2 and 10% invested in Asset 3.Asset 1 has a beta of 1.2,Asset 2 has a beta of 0.8 and Asset 3 has a beta of 1.8,what's the beta of the portfolio?

Accepted Answer

Suppose the expected return of Asset 1 is R₁,the expected return of Asset 2 is R₂,the expected return of Asset 3 is R_3,the risk free rate is R_f,and the market return is R_m. Portfolio expected return = 0.4R₁ + 0.5R₂ + 0.1R₃ = 0.4[R_f+1.2(R_m-R_f)]+ 0.5[R_f+0.8(R_m-R_f)]+ 0.1[R_f+1.8(R_m-R_f)] = R_f+1.06(R_m-R_f)]

Question 15

Asset 1 has a beta of 1.2 and Asset 2 has a beta of 0.6.Which of the following statements is correct?

Accepted Answer

The answer of Asset 1 has a beta of 1.2...

Question 16

Which of the following is not a method used by analysts to estimate an asset's expected return?

Accepted Answer

The estimation approach is not a recognized method for estimating an asset's expected return. Analysts typically use historical data, probabilistic models, and risk assessments to estimate future returns, but "estimation approach" is not a specific, recognized method in finance.

Question 17

A drawback to the historical approach of estimating an asset's expected return is:

Accepted Answer

The historical approach assumes that past performance is indicative of future results, but if the risk profile of the firm has changed, past data may not be relevant.

Question 18

The stock of Alpha Company has an expected return of 0.10 and a standard deviation of 0.25.The stock of Gamma Company has an expected return of 0.16 and a standard deviation of 0.40.The correlation coefficient between the two stock's return is 0.2.If a portfolio consists of 40% of Alpha Company and 60% of Gamma Company,what's the expected return of the portfolio?

Accepted Answer

Portfolio expected return = .4(0.10)+ .6(0.16)= 0.136

Question 19

NARRBEGIN: Exhibit 7-2
Exhibit 7-2
 
-Given Exhibit 7-2,what is the expected return?

Accepted Answer

0.4*-0.25 + 0.25*0.2 + 0.35*0.45 = 0.1075

Question 20

NARRBEGIN: Exhibit 7-1
Exhibit 7-1
 
-Given Exhibit 7-1,what is the expected variance?

Accepted Answer

11ea7e38_8c4f_f4db_a2f7_d5cc295fca2c_TB2250_00 Note the last column must be multiplied by the probability and then summed for variance

Quiz 7: Risk,return,and the Capital Asset Pricing Model

NARRBEGIN: Exhibit 7-1 Exhibit 7-1 -Given Exhibit 7-1,what is the expected return?

An investor put 40% of her money in Stock A and 60% in Stock B.Stock A has a beta of 1.2 and Stock B has a beta of 1.6.If the risk-free rate is 5% and the expected return on the market is 12%,what's the investor's expected return?

Expected returns are:

A portfolio consists 20% of a risk-free asset and 80% of a stock.The risk-free return is 4%.The stock has an expected return of 15% and a standard deviation of 30%.What's the expected return

A disadvantage of the probabilistic approach to estimating an asset's returns is:

NARRBEGIN: Exhibit 7-2 Exhibit 7-2 -Given Exhibit 7-2,what is the expected standard deviation?

NARRBEGIN: Exhibit 7-2 Exhibit 7-2 -Given Exhibit 7-2,what is the expected variance?

You have the following data on the securities of three firms: If the risk-free rate last year was 3%,and the return on the market was 11%,which firm had the best performance on a risk-adjusted basis?