Question 1

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

Accepted Answer

The probabilistic approach to estimating an asset's returns involves considering a range of possible outcomes, but the actual range of outcomes may be broader than the scenarios used in the analysis. This can lead to inaccurate estimates of returns and increased risk for investors.

Question 2

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 methods such as the historical approach, which looks at past returns; the probabilistic approach, which considers various possible future outcomes; and the risk-based approach, which factors in the risk associated with the asset. The term "estimation approach" is too vague and not specifically identified as a method for estimating expected returns in finance.

Question 3

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

Accepted Answer

The probabilistic approach allows for taking into account various possible outcomes and their likelihood without assuming that the future will follow the same pattern as the past. This makes the approach more flexible and adaptable to changing market conditions.

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

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

Accepted Answer

11ea7eff_73ed_b627_92e1_59ca1e27bd4b_TB3891_00 Note the last column must be multiplied by the probability and then summed for variance

Question 6

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 accurately predict future returns.

Question 7

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 8

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

Accepted Answer

11ea7eff_73ed_dd39_92e1_73890ffba5b0_TB3891_00 Note the last column must be multiplied by the probability and then summed for variance

Question 9

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 10

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 11

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 12

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

Accepted Answer

11ea7eff_73ee_044a_92e1_4367beb50246_TB3891_00 Note the last column must be multiplied by the probability and then summed for variance

Question 13

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

Accepted Answer

11ea7eff_73ed_8f16_92e1_99101497c460_TB3891_00 Note the last column must be multiplied by the probability and then summed for variance

Question 14

Expected returns are:

Accepted Answer

Expected returns are theoretical projections based on past performance and various assumptions, making them inherently unobservable until the investment period is over. They are not guaranteed to be positive, exceed the risk-free rate, or match actual returns.

Question 15

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 16

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 17

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 18

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 19

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 20

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.

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

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

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

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

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

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

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

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

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.

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?

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

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

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

Expected returns are:

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

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.

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?

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.

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

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?