Ch 7 & 8 - Risk return and stock markets, portfolio theory and CAPM Flashcards
(59 cards)
Generally in finance, risks are expressed in terms of _________-
Standard deviation
What does the standard deviation of a stock measure?
How far the actual return of the stock may vary from the expected return calculated
What is the mean variance rule?
- investment with higher return for the same level or risk
2. investment with lower risk for the same return
How do investors reduce risk and achieve a higher return?
By creating portfolios
What is a portfolio?
A collection of investment. It can include conventional assets and unconventional assets
What is the objective of creating portfoios?
To generate optimal returns- best return for the level f risk tolerance or the wealth available
What does the covariance of 2 stocks measure?
How the return of 2 stocks move together over time
What does the correlation measure?
The strength between 2 variables
What 3 variables is portfolio risk/ variance influenced by?
- risk of the individual assets
- wealth allocation
- covariance between the returns
What does Harry Markovitz’s modern portfolio theory state?
In order to make the best returns for the investment made, investors need to take into account the way in which the assets returns move with one another
All points below the Mean Standard Deviation frontier is _____ but _____. This area is known as the ______
Feasible, inefficient, feasible region
All points above the MSD frontier are _______ and ________ but cannot be achieved due to ______
Desired, efficient, capital constraints
What does the MSD frontier illsutrate?
The different return and risk combinations that can be achieved using different investments in 2 risky assets
The curvature of the MSD frontier depends on _______
The correlation coefficient between the 2 assets
Ideally to reduce the risk investors must combine assets that have _____ or ______ correlation
Negative, 0
Since negative or 0 correlation is observed in reality, investors should combine assets that have _____ correlation
Low positive
The objective of diversification is to ________ and not to ______
Reduce risk , maximize returns
What is the global minimum variance portfolio?
The portfolio with the lowest variance/ risk
What does the efficient frontier illustrate?
The portfolios that maximize the return for a given level of risk. The portfolios lie to the right of the global min variance portfolio
The best portfolio for an investor is indicated through the tangency of the __________ and ________
Investor’s utility curve and the efficient frontier
The only security with no risk are _____
Gov securities such as treasury bills and bonds
What does the Capital Allocation Line illustrate?
The relationship between portfolio risk and return
The CAL for a portfolio made up of a risky and risk free asset is ______-
Linear
The CAL that becomes tangent to the efficient frontier is considered as the ________
Most optimal CAL or the Capital market line
