chp 11

Question 1

Unsystematic risk

Answer 1

can be effectively eliminated through portfolio diversification.

Question 2

Which one of the following measures the interrelationship between two securities?

Answer 2

Covariance

Question 3

The correlation between stocks A and B is equal to the

Answer 3

covarianceAB divided by the product of the standard deviations of A and B.

Question 4

The excess return earned by an asset that has a beta of one over that earned by a risk-free asset is referred to as the

Answer 4

market risk premium.

Question 5

Hugo anticipates earning a rate of return of 13.2 percent on his portfolio next year. The 13.2 percent is referred to as the

Answer 5

expected return.

Question 6

Assume the risk-free rate and the market risk premium are both positive. Trevor currently owns a portfolio consisting of risky and risk-free securities. The portfolio has an expected return of 11.2 percent, a standard deviation of 16.2 percent, and a beta of 1.21. He has decided that he would prefer a higher expected return. Which one of these actions should he take?

Answer 6

Increase the portfolio weight of the risky assets without affecting the total portfolio value

Question 7

You plotted the monthly rate of return for two securities against time for the past 48 months. If the pattern of the movements of these two sets of returns rose and fell together the majority, but not all, of the time, then the securities have

Answer 7

a strong positive correlation.

Question 8

The capital market line

Answer 8

intersects the vertical axis at the risk-free rate.

Question 9

Well-diversified portfolios have negligible

Answer 9

unsystematic risks.

Question 10

The standard deviation of a portfolio will tend to increase when

Answer 10

the portfolio concentration in a single cyclical industry increases.

Question 11

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

Answer 11

A decrease in the portfolio standard deviation

Question 12

The equity risk premium for an individual security is computed by

Answer 12

multiplying the security’s beta by the market risk premium.

Question 13

If there is no diversification benefit derived from combining two risky stocks into one portfolio, then the

Answer 13

returns on the two stocks must move perfectly in sync with one another.

Question 14

A portfolio consists of five securities that have individual betas of 1.72, .67, 1.37, 1.53, and .49. You do not know the portfolio weight of each security. What do you know with certainty?

Answer 14

The portfolio beta will be less than 1.72 and greater than .49.

Question 15

A negative covariance between the returns of Stock A and Stock B indicates that

Answer 15

the return on one stock will exceed that stock’s average return when the second stock has a return that is less than its average.

Question 16

The portfolio with the lowest possible level of risk out of a set of portfolios consisting of two securities is referred to as the

Answer 16

minimum variance portfolio.

Question 17

The systematic risk of the market is assigned a

Answer 17

beta of 1.

Question 18

The combination of the efficient set of portfolios with a riskless lending and borrowing rate results in the

Answer 18

capital market line, which shows that investors will invest in a combination of the riskless asset and the tangency portfolio.

Question 19

Well-diversified portfolios have negligible

Answer 19

unsystematic risks.

Question 20

A stock with a beta of zero would be expected to have a rate of return equal to

Answer 20

the risk-free rate.

Question 21

A stock with an actual return that lies above the security market line has

Answer 21

yielded a higher return than expected for the level of risk assumed.

Question 22

Over time, the unexpected return on a company’s stock is expected to equal

Answer 22

zero.

Question 23

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

Answer 23

The standard deviation of a portfolio could potentially be lowered by changing the weights of the securities in the portfolio.

Question 24

The primary purpose of portfolio diversification is to

Answer 24

eliminate security-specific risk.