Question 1

Stock A has a beta of 1.2 and a standard deviation of 20%. Stock B has a beta of 0.8 and a standard deviation of 25%. Portfolio P has $200,000 consisting of $100,000 invested in Stock A and $100,000 in Stock B. Which of the following statements is CORRECT? (Assume that the stocks are in equilibrium.)

Accepted Answer

A)   Stock A's returns are less highly correlated with the returns on most other stocks than are B's returns.
B)   Stock B has a higher required rate of return than Stock A.
C)   Portfolio P has a standard deviation of 22.5%.
D)   More information is needed to determine the portfolio's beta.
E)   Portfolio P has a beta of 1.0.F) A) and C)
G) D) and E)

Question 2

Which of the following statements is CORRECT?

Accepted Answer

A)   If the returns on two stocks are perfectly positively correlated and these stocks have identical standard deviations, an equally weighted portfolio of the two stocks will have a standard deviation that is less than that of the individual stocks.
B)   A portfolio with a large number of randomly selected stocks would have more market risk than a single stock that has a beta of 0.5, assuming that the stock's beta was correctly calculated and is stable.
C)   If a stock has a negative beta, its expected return must be negative.
D)   A portfolio with a large number of randomly selected stocks would have less market risk than a single stock that has a beta of 0.5.
E)   According to the CAPM, stocks with higher standard deviations of returns must also have higher expected returns.F) A) and B)
G) None of the above

Question 3

Which of the following statements is CORRECT?

Accepted Answer

A)   A two-stock portfolio will always have a lower standard deviation than a one-stock portfolio.
B)   A portfolio that consists of 40 stocks that are not highly correlated with "the market" will probably be less risky than a portfolio of 40 stocks that are highly correlated with the market, assuming the stocks all have the same standard deviations.
C)   A two-stock portfolio will always have a lower beta than a one-stock portfolio.
D)   If portfolios are formed by randomly selecting stocks, a 10-stock portfolio will always have a lower beta than a one-stock portfolio.
E)   A stock with an above-average standard deviation must also have an above-average beta.F) All of the above
G) None of the above

Question 4

The CAPM is built on historic conditions, although in most cases we use expected future data in applying it. Because betas used in the CAPM are calculated using expected future data, they are not subject to changes in future volatility. This is one of the strengths of the CAPM.

Accepted Answer

A) True 
 B)False

Question 5

Stock A has an expected return of 12%, a beta of 1.2, and a standard deviation of 20%. Stock B also has a beta of 1.2, but its expected return is 10% and its standard deviation is 15%. Portfolio AB has $900,000 invested in Stock A and $300,000 invested in Stock B. The correlation between the two stocks' returns is zero (that is, rA,B = 0) . Which of the following statements is CORRECT?

Accepted Answer

A)   Portfolio AB's standard deviation is 17.5%.
B)   The stocks are not in equilibrium based on the CAPM; if A is valued correctly, then B is overvalued.
C)   The stocks are not in equilibrium based on the CAPM; if A is valued correctly, then B is undervalued.
D)   Portfolio AB's expected return is 11.0%.
E)   Portfolio AB's beta is less than 1.2.F) D) and E)
G) A) and D)

Question 6

Stock HB has a beta of 1.5 and Stock LB has a beta of 0.5. The market is in equilibrium, with required returns equaling expected returns. Which of the following statements is CORRECT?

Accepted Answer

A)   If expected inflation remains constant but the market risk premium (rM − rRF)  declines, the required return of Stock LB will decline but the required return of Stock HB will increase.
B)   If both expected inflation and the market risk premium (rM − rRF)  increase, the required return on Stock HB will increase by more than that on Stock LB.
C)   If both expected inflation and the market risk premium (rM − rRF)  increase, the required returns of both stocks will increase by the same amount.
D)   Since the market is in equilibrium, the required returns of the two stocks should be the same.
E)   If expected inflation remains constant but the market risk premium (rM − rRF)  declines, the required return of Stock HB will decline but the required return of Stock LB will increase.F) B) and D)
G) A) and E)

Question 7

Taggart Inc.'s stock has a 50% chance of producing a 25% return, a 30% chance of producing a 10% return, and a 20% chance of producing a -28% return. What is the firm's expected rate of return?

Accepted Answer

A)   9.41%
B)   9.65%
C)   9.90%
D)   10.15%
E)   10.40%F) A) and B)
G) A) and C)

Question 8

When adding a randomly chosen new stock to an existing portfolio, the higher (or more positive) the degree of correlation between the new stock and stocks already in the portfolio, the less the additional stock will reduce the portfolio's risk.

Accepted Answer

A) True 
 B)False

Question 9

Kollo Enterprises has a beta of 1.10, the real risk-free rate is 2.00%, investors expect a 3.00% future inflation rate, and the market risk premium is 4.70%. What is Kollo's required rate of return?

Accepted Answer

A)   9.43%
B)   9.67%
C)   9.92%
D)   10.17%
E)   10.42%F) C) and D)
G) A) and D)

Question 10

CCC Corp has a beta of 1.5 and is currently in equilibrium. The required rate of return on the stock is 12.00% versus a required return on an average stock of 10.00%. Now the required return on an average stock increases by 30.0% (not percentage points) . Neither betas nor the risk-free rate change. What would CCC's new required return be?

Accepted Answer

A)   14.89%
B)   15.68%
C)   16.50%
D)   17.33%
E)   18.19%F) C) and D)
G) A) and E)

Question 11

If investors are risk averse and hold only one stock, we can conclude that the required rate of return on a stock whose standard deviation is 0.21 will be greater than the required return on a stock whose standard deviation is 0.10. However, if stocks are held in portfolios, it is possible that the required return could be higher on the stock with the lower standard deviation.

Accepted Answer

A) True 
 B)False

Question 12

In portfolio analysis, we often use ex post (historical) returns and standard deviations, despite the fact that we are really interested in ex ante (future) data.

Accepted Answer

A) True 
 B)False

Question 13

During the coming year, the market risk premium (rM − rRF) , is expected to fall, while the risk-free rate, rRF, is expected to remain the same. Given this forecast, which of the following statements is CORRECT?

Accepted Answer

A)   The required return will increase for stocks with a beta less than 1.0 and will decrease for stocks with a beta greater than 1.0.
B)   The required return on all stocks will remain unchanged.
C)   The required return will fall for all stocks, but it will fall more for stocks with higher betas.
D)   The required return for all stocks will fall by the same amount.
E)   The required return will fall for all stocks, but it will fall less for stocks with higher betas.F) A) and B)
G) A) and E)

Question 14

Assume that the risk-free rate remains constant, but the market risk premium declines. Which of the following is most likely to occur?

Accepted Answer

A)   The required return on a stock with beta = 1.0 will not change.
B)   The required return on a stock with beta > 1.0 will increase.
C)   The return on "the market" will remain constant.
D)   The return on "the market" will increase.
E)   The required return on a stock with a positive beta < 1.0 will decline.F) All of the above
G) B) and D)

Question 15

Any change in its beta is likely to affect the required rate of return on a stock, which implies that a change in beta will likely have an impact on the stock's price, other things held constant.

Accepted Answer

A) True 
 B)False

Question 16

Assume that investors have recently become more risk averse, so the market risk premium has increased. Also, assume that the risk-free rate and expected inflation have not changed. Which of the following is most likely to occur?

Accepted Answer

A)   The required rate of return for an average stock will increase by an amount equal to the increase in the market risk premium.
B)   The required rate of return will decline for stocks whose betas are less than 1.0.
C)   The required rate of return on the market, rM, will not change as a result of these changes.
D)   The required rate of return for each individual stock in the market will increase by an amount equal to the increase in the market risk premium.
E)   The required rate of return on a riskless bond will decline.F) A) and B)
G) B) and E)

Question 17

Which of the following statements is CORRECT?

Accepted Answer

A)   A graph of the SML as applied to individual stocks would show required rates of return on the vertical axis and standard deviations of returns on the horizontal axis.
B)   The CAPM has been thoroughly tested, and the theory has been confirmed beyond any reasonable doubt.
C)   If two "normal" or "typical" stocks were combined to form a 2-stock portfolio, the portfolio's expected return would be a weighted average of the stocks' expected returns, but the portfolio's standard deviation would probably be greater than the average of the stocks' standard deviations.
D)   If investors become more risk averse, then (1)  the slope of the SML would increase and (2)  the required rate of return on low-beta stocks would increase by more than the required return on high-beta stocks.
E)   An increase in expected inflation, combined with a constant real risk-free rate and a constant market risk premium, would lead to identical increases in the required returns on a riskless asset and on an average stock, other things held constant.F) B) and E)
G) A) and B)

Question 18

Assume that you manage a $10.00 million mutual fund that has a beta of 1.05 and a 9.50% required return. The risk-free rate is 4.20%. You now receive another $5.00 million, which you invest in stocks with an average beta of 0.65. What is the required rate of return on the new portfolio? (Hint: You must first find the market risk premium, then find the new portfolio beta.)

Accepted Answer

A)   8.83%
B)   9.05%
C)   9.27%
D)   9.51%
E)   9.74%F) B) and C)
G) A) and D)

Question 19

A mutual fund manager has a $40 million portfolio with a beta of 1.00. The risk-free rate is 4.25%, and the market risk premium is 6.00%. The manager expects to receive an additional $60 million which she plans to invest in additional stocks. After investing the additional funds, she wants the fund's required and expected return to be 13.00%. What must the average beta of the new stocks be to achieve the target required rate of return?

Accepted Answer

A)   1.68
B)   1.76
C)   1.85
D)   1.94
E)   2.04F) A) and D)
G) D) and E)

Question 20

You observe the following information regarding Companies X and Y: • Company X has a higher expected return than Company Y. • Company X has a lower standard deviation of returns than Company Y. • Company X has a higher beta than Company Y. Given this information, which of the following statements is CORRECT?

Accepted Answer

A)   Company X has more diversifiable risk than Company Y.
B)   Company X has a lower coefficient of variation than Company Y.
C)   Company X has less market risk than Company Y.
D)   Company X's returns will be negative when Y's returns are positive.
E)   Company X's stock is a better buy than Company Y's stock.F) A) and B)
G) C) and E)

Exam 8: Risk and Return

Stock HB has a beta of 1.5 and Stock LB has a beta of 0.5. The market is in equilibrium, with required returns equaling expected returns. Which of the following statements is CORRECT?

Correct Answer
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Correct Answer
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Any change in its beta is likely to affect the required rate of return on a stock, which implies that a change in beta will likely have an impact on the stock's price, other things held constant.

Correct Answer
verified

Correct Answer
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Assume that the risk-free rate remains constant, but the market risk premium declines. Which of the following is most likely to occur?

Correct Answer
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In portfolio analysis, we often use ex post (historical) returns and standard deviations, despite the fact that we are really interested in ex ante (future) data.

Correct Answer
verified

Which of the following statements is CORRECT?

Correct Answer
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Correct Answer
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Taggart Inc.'s stock has a 50% chance of producing a 25% return, a 30% chance of producing a 10% return, and a 20% chance of producing a -28% return. What is the firm's expected rate of return?

Correct Answer
verified

The CAPM is built on historic conditions, although in most cases we use expected future data in applying it. Because betas used in the CAPM are calculated using expected future data, they are not subject to changes in future volatility. This is one of the strengths of the CAPM.

Correct Answer
verified

Kollo Enterprises has a beta of 1.10, the real risk-free rate is 2.00%, investors expect a 3.00% future inflation rate, and the market risk premium is 4.70%. What is Kollo's required rate of return?

Correct Answer
verified

Assume that investors have recently become more risk averse, so the market risk premium has increased. Also, assume that the risk-free rate and expected inflation have not changed. Which of the following is most likely to occur?

Correct Answer
verified

Which of the following statements is CORRECT?

Correct Answer
verified

Which of the following statements is CORRECT?

Correct Answer
verified

Correct Answer
verified

During the coming year, the market risk premium (rM − rRF) , is expected to fall, while the risk-free rate, rRF, is expected to remain the same. Given this forecast, which of the following statements is CORRECT?

Correct Answer
verified

When adding a randomly chosen new stock to an existing portfolio, the higher (or more positive) the degree of correlation between the new stock and stocks already in the portfolio, the less the additional stock will reduce the portfolio's risk.

Correct Answer
verified

Correct Answer
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Correct Answer
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Correct Answer
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Exam 8: Risk and Return

Stock HB has a beta of 1.5 and Stock LB has a beta of 0.5. The market is in equilibrium, with required returns equaling expected returns. Which of the following statements is CORRECT?

Correct AnswerverifiedShow Answer

Correct AnswerverifiedShow Answer

Any change in its beta is likely to affect the required rate of return on a stock, which implies that a change in beta will likely have an impact on the stock's price, other things held constant.

Correct AnswerverifiedShow Answer

Correct AnswerverifiedShow Answer

Assume that the risk-free rate remains constant, but the market risk premium declines. Which of the following is most likely to occur?

Correct AnswerverifiedShow Answer

In portfolio analysis, we often use ex post (historical) returns and standard deviations, despite the fact that we are really interested in ex ante (future) data.

Correct AnswerverifiedShow Answer

Which of the following statements is CORRECT?

Correct AnswerverifiedShow Answer

Correct AnswerverifiedShow Answer

Taggart Inc.'s stock has a 50% chance of producing a 25% return, a 30% chance of producing a 10% return, and a 20% chance of producing a -28% return. What is the firm's expected rate of return?

Correct AnswerverifiedShow Answer

The CAPM is built on historic conditions, although in most cases we use expected future data in applying it. Because betas used in the CAPM are calculated using expected future data, they are not subject to changes in future volatility. This is one of the strengths of the CAPM.

Correct AnswerverifiedShow Answer

Kollo Enterprises has a beta of 1.10, the real risk-free rate is 2.00%, investors expect a 3.00% future inflation rate, and the market risk premium is 4.70%. What is Kollo's required rate of return?

Correct AnswerverifiedShow Answer

Assume that investors have recently become more risk averse, so the market risk premium has increased. Also, assume that the risk-free rate and expected inflation have not changed. Which of the following is most likely to occur?

Correct AnswerverifiedShow Answer

Which of the following statements is CORRECT?

Correct AnswerverifiedShow Answer

Which of the following statements is CORRECT?

Correct AnswerverifiedShow Answer

Correct AnswerverifiedShow Answer

During the coming year, the market risk premium (rM − rRF) , is expected to fall, while the risk-free rate, rRF, is expected to remain the same. Given this forecast, which of the following statements is CORRECT?

Correct AnswerverifiedShow Answer

When adding a randomly chosen new stock to an existing portfolio, the higher (or more positive) the degree of correlation between the new stock and stocks already in the portfolio, the less the additional stock will reduce the portfolio's risk.

Correct AnswerverifiedShow Answer

Correct AnswerverifiedShow Answer

Correct AnswerverifiedShow Answer

Correct AnswerverifiedShow Answer

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