Question 1

When computing the expected return on a portfolio of stocks the portfolio weights are based on the:
A)number of shares owned in each stock.
B)price per share of each stock.
C)market value of the total shares held in each stock.
D)original amount invested in each stock.
E)cost per share of each stock held.

Accepted Answer

The portfolio weights should be based on the market value of the shares held in each stock, as this takes into account both the number of shares and the price per share. The other options listed do not accurately reflect the relative value of each stock in the portfolio.

Question 2

Unsystematic risk:
A)can be effectively eliminated through portfolio diversification.
B)is measured by beta.
C)is compensated for by the risk premium.
D)is nondiversifiable.
E)is related to the overall economy.

Accepted Answer

Unsystematic risk, also known as company-specific risk, can be effectively eliminated through portfolio diversification as it is specific to a particular company or industry.

Question 3

The portfolio expected return considers which of the following factors?
I.The amount of money currently invested in each individual security
II.Various levels of economic activity
III.The performance of each stock given various economic scenarios
IV.The probability of various states of the economy occurring
A)I and III only
B)II and IV only
C)I,III,and IV only
D)II,III,and IV only
E)I,II,III,and IV only

Accepted Answer

E

Question 4

Which one of these measures the interrelationship between two securities?
A)Standard deviation
B)Variance
C)Beta
D)Covariance
E)Alpha

Accepted Answer

Covariance measures the interrelationship between two securities by calculating the degree to which they move together. It measures how much the returns of two securities vary together, providing investors with an idea of how strong the relationship between the securities is.

Question 5

The primary purpose of portfolio diversification is to:
A)increase returns and risks.
B)eliminate all risks.
C)eliminate asset-specific risk.
D)lower both returns and risks.
E)eliminate systematic risk.

Accepted Answer

The primary purpose of portfolio diversification is to eliminate asset-specific risk. By spreading investments across different assets, sectors, and geographies, investors can reduce the impact of any one investment performing poorly on the overall portfolio. This can help to minimize losses and stabilize returns over the long term. However, diversification cannot eliminate all risks, nor can it guarantee higher returns.

Question 6

Which one of the following is an example of a nondiversifiable risk?
A)A poorly managed firm suddenly goes out of business due to lack of sales
B)A well managed firm reduces its work force and automates several jobs
C)A key employee of a firm suddenly resigns and accepts employment with a key competitor
D)A well respected chairman of the Federal Reserve suddenly resigns
E)A well respected president of a firm suddenly resigns

Accepted Answer

Nondiversifiable risk, also known as systematic risk, affects the entire market or economy. The resignation of the Federal Reserve chairman can impact the entire financial market, making it a nondiversifiable risk.

Question 7

The standard deviation of a portfolio will tend to increase when:
A)the portfolio concentration in a single cyclical industry increases.
B)one of two stocks related to the airline industry is replaced with a third stock that is unrelated to the airline industry.
C)a risky asset in the portfolio is replaced with U.S.Treasury bills.
D)the weights of the various diverse securities become more evenly distributed.
E)short-term bonds are replaced with Treasury Bills.

Accepted Answer

When the portfolio concentration in a single cyclical industry increases, it becomes less diversified, leading to a higher standard deviation of the portfolio.

Question 8

The systematic risk of the market is assigned a:
A)beta of 1.
B)beta of 0.
C)standard deviation of 1.
D)standard deviation of 0.
E)variance of 1.

Accepted Answer

Beta measures the systematic risk of an asset or portfolio relative to the market. The market has a beta of 1 by definition, so choice A is correct. B, C, D, and E are incorrect because they do not accurately describe the concept of beta in relation to systematic risk.

Question 9

If a stock portfolio is well diversified,then the portfolio variance:
A)must be equal to or greater than the variance of the least risky stock in the portfolio.
B)will be a weighted average of the variances of the individual securities in the portfolio.
C)will equal the variance of the most volatile stock in the portfolio.
D)will be an arithmetic average of the variances of the individual securities in the portfolio.
E)may be less than the variance of the least risky stock in the portfolio.

Accepted Answer

The answer of If a stock portfolio is well diversified,then...

Question 10

The risk premium for an individual security is computed by:
A)adding the risk-free rate to the security's expected return.
B)multiplying the security's beta by the market risk premium.
C)multiplying the security's beta by the risk-free rate of return.
D)dividing the market risk premium by the beta of the security.
E)dividing the market risk premium by the quantity (1 - beta).

Accepted Answer

The risk premium for an individual security is calculated by multiplying the security's beta by the market risk premium, which reflects the additional return expected for taking on the risk of the security compared to a risk-free asset.

Question 11

The beta of a security is calculated by dividing the:
A)variance of the market by the covariance of the security with the market.
B)correlation of the security with the market by the variance of the security.
C)variance of the market by the correlation of the security with the market.
D)covariance of the security with the market by the variance of the market.
E)covariance of the security with the market by the variance of the security.

Accepted Answer

Beta is calculated as the covariance of the security's returns with the market's returns divided by the variance of the market's returns. This measures the security's sensitivity to market movements.

Question 12

The expected return on a portfolio:
A)can be greater than the expected return on the best performing security in the portfolio.
B)can be less than the expected return on the worst performing security in the portfolio.
C)is independent of the performance of the overall economy.
D)is limited by the returns on the individual securities within the portfolio.
E)is an arithmetic average of the returns of the individual securities when the weights of those securities are unequal.

Accepted Answer

The answer of The expected return on a portfolio:
A)can be...

Question 13

Which one of the following would tend to indicate that a portfolio is being effectively diversified?
A)A decrease in the portfolio standard deviation
B)An increase in the portfolio rate of return
C)An increase in the portfolio beta
D)An increase in the portfolio standard deviation
E)A constant portfolio beta

Accepted Answer

A decrease in the portfolio standard deviation would indicate that the portfolio is effectively diversified. This is because diversification aims to reduce the overall risk of the portfolio, and a lower standard deviation indicates less volatility and lower risk. Conversely, an increase in standard deviation would suggest the opposite, that the portfolio is not effectively diversified.

Question 14

Which one of the following is the best example of systematic risk?
A)The price of lumber declines sharply
B)Inflation rises unexpectedly
C)Airline pilots go on strike
D)A hurricane hits a tourist destination
E)People become diet conscious and avoid fast food restaurants

Accepted Answer

Systematic risk refers to the risk that affects the entire market or a particular segment of the market, regardless of the individual company or asset. Inflation is a macroeconomic factor that affects the entire market, making it the best example of systematic risk among the given choices. The other options are more specific to individual companies or industries and may be considered examples of unsystematic or idiosyncratic risk.

Question 15

A security that is fairly priced will have a return that lies _____ the security market line.
A)below
B)on or below
C)on
D)on or above
E)above

Accepted Answer

A security that is fairly priced will have a return that is in line with the overall market return, which is represented by the security market line. Therefore, the return of a fairly priced security should lie directly on the security market line, not above or below it.

Question 16

The principle of diversification tells us that:
A)concentrating an investment in three companies all within the same industry will greatly reduce the overall risk of a portfolio.
B)concentrating an investment in two or three large stocks will eliminate all of a portfolio's risk.
C)spreading an investment across many diverse assets will eliminate all of a portfolio's risk.
D)spreading an investment across many diverse assets will lower a portfolio's level of risk.
E)spreading an investment across five diverse companies will not lower a portfolio's level of risk.

Accepted Answer

The principle of diversification tells us that spreading an investment across many diverse assets will lower a portfolio's level of risk. By investing in different asset classes, industries, and geographic regions, an investor can reduce the impact of any one investment or market sector on their overall portfolio. However, diversification does not eliminate all risk, as all investments carry some level of risk.

Question 17

Which one of the following statements is correct concerning the standard deviation of a portfolio?
A)Standard deviation is used to determine the amount of risk premium that should apply to a portfolio.
B)The greater the diversification of a portfolio,the greater the standard deviation of that portfolio.
C)Standard deviation measures only the systematic risk of a portfolio.
D)The standard deviation of a portfolio can often be lowered by changing the weights of the securities in the portfolio.
E)The standard deviation of a portfolio is equal to a weighted average of the standard deviations of the individual securities held within the portfolio.

Accepted Answer

The standard deviation of a portfolio can often be lowered by changing the weights of the securities in the portfolio. This is because the standard deviation of a portfolio reflects not only the standard deviations of the individual securities within the portfolio but also how those securities are correlated with each other. By adjusting the weights of the securities within the portfolio, an investor can potentially reduce the overall correlation and therefore lower the standard deviation of the portfolio. Choices A, B, and C are incorrect because they either incorrectly describe the purpose of standard deviation or the factors that affect it. Choice E is partially correct, but it fails to take into account the correlation between securities.

Question 18

Standard deviation measures _____ risk.
A)total
B)nondiversifiable
C)unsystematic
D)economic
E)systematic

Accepted Answer

Standard deviation measures total risk, which includes both systematic and unsystematic risk.

Question 19

The intercept point of the security market line is the rate of return that corresponds to:
A)the market rate of return.
B)the beta of the market.
C)a value of one.
D)a value of zero.
E)the risk-free rate of return.

Accepted Answer

The intercept point of the security market line represents the rate of return that can be earned for a portfolio with zero systematic risk, i.e. the risk-free rate of return. Therefore, choice E is the correct answer.

Question 20

Systematic risk is measured by:
A)beta.
B)the arithmetic average.
C)the geometric average.
D)the covariance.
E)the standard deviation.

Accepted Answer

Systematic risk is measured by beta, which is a standardized measure of an asset's volatility in relation to the overall market. Beta measures the asset's sensitivity to changes in the market, and therefore represents the systematic risk of the asset. The other options (arithmetic average, geometric average, covariance, and standard deviation) are not specific measures of systematic risk.

Quiz 11: Return and Risk: the Capital Asset Pricing Model Capm

When computing the expected return on a portfolio of stocks the portfolio weights are based on the:

Unsystematic risk:

Which one of these measures the interrelationship between two securities?

The primary purpose of portfolio diversification is to:

Which one of the following is an example of a nondiversifiable risk?

The standard deviation of a portfolio will tend to increase when:

The systematic risk of the market is assigned a:

If a stock portfolio is well diversified,then the portfolio variance:

The risk premium for an individual security is computed by:

The beta of a security is calculated by dividing the:

The expected return on a portfolio:

Which one of the following would tend to indicate that a portfolio is being effectively diversified?

Which one of the following is the best example of systematic risk?

A security that is fairly priced will have a return that lies _____ the security market line.

The principle of diversification tells us that:

Which one of the following statements is correct concerning the standard deviation of a portfolio?

Standard deviation measures _____ risk.

The intercept point of the security market line is the rate of return that corresponds to:

Systematic risk is measured by: