Question 1

Batman Stock has exhibited a standard deviation in share returns of 0.5, whereas Superman Stock has exhibited a standard deviation of 0.6. The correlation coefficient between the share returns is 0.5. What is the variance of a portfolio composed of 70 per cent Batman and 30 per cent Superman?
A) 0.1549
B) 0.2179
C) 0.4668
D) 0.5500

Accepted Answer

First, we need to calculate the expected return of the portfolio:

Expected return = (0.7 * expected return of Batman) + (0.3 * expected return of Superman)

Next, we need to calculate the variance of the portfolio using the formula:

Variance of portfolio = (0.7^2 * variance of Batman) + (0.3^2 * variance of Superman) + (2 * 0.7 * 0.3 * covariance between Batman and Superman)

Covariance between Batman and Superman = correlation coefficient * standard deviation of Batman * standard deviation of Superman

Covariance between Batman and Superman = 0.5 * 0.5 * 0.6 = 0.15

Expected return of Batman = 0.08 (assumed)
Expected return of Superman = 0.12 (assumed)

Expected return of portfolio = (0.7 * 0.08) + (0.3 * 0.12) = 0.092

Variance of portfolio = (0.7^2 * 0.5^2) + (0.3^2 * 0.6^2) + (2 * 0.7 * 0.3 * 0.15) = 0.2179

Therefore, the answer is B - 0.2179.

Question 2

Horse Stock returns have exhibited a standard deviation of 0.57, whereas Mod T Stock returns have a standard deviation of 0.63. The correlation coefficient between the returns is 0.078042. What is the covariance of the returns?
A) 0.028025
B) 0.217327
C) 0.359100
D) 0.993094

Accepted Answer

Covariance is calculated as the product of the correlation coefficient and the standard deviations of the two stocks: 0.078042 * 0.57 * 0.63 = 0.028025.

Question 3

Explain the difference between systematic and nonsystematic risk.

Accepted Answer

The answer of Explain the difference between systematic and nonsystematic...

Question 4

Most of the risk-reduction benefits from diversification can be achieved in a portfolio consisting of
A) 5 to 10 shares
B) 10 to 15 shares
C) 15 to 20 shares
D) 20 to 25 shares

Accepted Answer

According to modern portfolio theory, diversification benefits start to taper off at around 15 to 20 stocks. After this point, the added benefits of diversification become negligible as the portfolio nears full market diversification. Therefore, a portfolio consisting of 15 to 20 stocks is optimal for achieving risk-reduction benefits from diversification.

Question 5

Aquaman Stock has exhibited a standard deviation in share returns of 0.7, whereas Green Lantern Stock has exhibited a standard deviation of 0.8. The correlation coefficient between the share returns is 0.1. What is the standard deviation of a portfolio composed of 70 per cent Aquaman and 30 per cent Green Lantern?
A) 0.32122
B) 0.54562
C) 0.56676
D) 0.75000

Accepted Answer

The formula to calculate the portfolio standard deviation is as follows:

Portfolio Standard Deviation = [(weight of stock A x standard deviation of stock A)^2 + (weight of stock B x standard deviation of stock B)^2 + 2 x (weight of stock A x weight of stock B x standard deviation of stock A x standard deviation of stock B x correlation coefficient)^0.5]

Using the given data, we can calculate the standard deviation of the portfolio as follows:

Portfolio Standard Deviation = [(0.7 x 0.7 x 0.7) + (0.8 x 0.8 x 0.3) + 2 x (0.7 x 0.8 x 0.1))^0.5 = 0.56676

Therefore, the standard deviation of the portfolio is 0.56676, which is closest to option C (0.56676).

Question 6

The expected return on Mike's Seafood shares is 10.8 per cent. If the expected return on the market is 10 per cent and the beta for Kiwi is 1.7, then what is the risk-free rate?
A) 4.5%
B) 5.0%
C) 5.5%
D) 6.0%

Accepted Answer

The answer of The expected return on Mike's Seafood shares...

Question 7

The expected return on Kiwi Computers shares is 16.6 per cent. If the risk-free rate is 4 per cent and the expected return on the market is 10 per cent, then what is Kiwi's beta?
A) 1.26
B) 2.10
C) 2.80
D) 3.15

Accepted Answer

The Capital Asset Pricing Model (CAPM) formula is: 
Expected Return on a Security = Risk-Free Rate + Beta x (Expected Market Return - Risk-Free Rate)

Using the formula, we can calculate the beta of Kiwi Computers as follows: 
16.6% = 4% + Beta x (10% - 4%) 
12.6% = Beta x 6% 
Beta = 2.1

Therefore, the answer is B: 2.10.

Question 8

If you were to regress the historical returns of a share on the historical return of a general market index, you would plot the line of best fit through those data points. The slope of that line represents the beta of the share in question. However, in most instances the date points do not lie exactly on that line. Describe why.

Accepted Answer

The answer of If you were to regress the historical...

Question 9

The expected return on KarolCo. shares is 16.5 per cent. If the risk-free rate is 5 per cent and the beta of KarolCo is 2.3, then what is the risk premium on the market?
A) 2.5%
B) 5.0%
C) 7.5%
D) 10.0%

Accepted Answer

The answer of The expected return on KarolCo. shares is...

Question 10

The beta of RicciCo.'s share is 3.2, whereas the risk-free rate of return is 9 per cent. If the expected return on the market is 18 per cent, then what is the expected return on RicciCo.?
A) 28.80%
B) 37.80%
C) 48.60%
D) 57.60%

Accepted Answer

The expected return on RicciCo can be calculated using the CAPM formula:
Expected return on RicciCo = Risk-free rate + Beta(Risk premium)
= 9% + 3.2(18% - 9%)
= 9% + 28.8%
= 37.8%
Therefore, the expected return on RicciCo is 37.8%, which is option B.

Question 11

A portfolio with a level of systematic risk the same as that of the market has a beta that is
A) equal to zero.
B) equal to one.
C) less than the beta of the risk-free asset.
D) less than zero.

Accepted Answer

A portfolio with the same systematic risk as the market has a beta of one, which means its returns move in line with those of the overall market. Beta can never be negative, and an asset with a beta of zero would have no systematic risk. The beta of a risk-free asset is by definition zero, so it cannot be greater than a portfolio with a beta of one.

Question 12

The beta of Elsenore, Ltd., share is 1.6, whereas the risk-free rate of return is 8 per cent. If the expected return on the market is 15 per cent, then what is the expected return on Elsenore?
A) 11.20%
B) 19.20%
C) 24.00%
D) 32.00%

Accepted Answer

The Capital Asset Pricing Model (CAPM) formula is:

Expected Return on a Security = Risk-Free Rate + Beta x (Expected Market Return - Risk-Free Rate)

Substituting the given values, we get:

Expected Return on Elsenore = 8% + 1.6 x (15% - 8%) 
Expected Return on Elsenore = 8% + 1.6 x 7%
Expected Return on Elsenore = 8% + 11.20%
Expected Return on Elsenore = 19.20%

Therefore, the expected return on Elsenore is 19.20%. Hence, the correct choice is B.

Question 13

The risk-free rate of return is currently 3 per cent, whereas the market risk premium is 6 per cent. If the beta of Lenz, Ltd., share is 1.8, then what is the expected return on Lenz?
A) 8.40%
B) 10.80%
C) 13.80%
D) 19.20%

Accepted Answer

The expected return on Lenz can be calculated using the Capital Asset Pricing Model (CAPM) as follows:
Expected Return = Risk-free Rate + (Beta × Market Risk Premium)
Expected Return = 3% + (1.8 × 6%)
Expected Return = 3% + 10.8%
Expected Return = 13.8%
Therefore, the expected return on Lenz is 13.8%, which corresponds to option C.

Question 14

Which of the following investors should be willing to pay the highest price for an asset?
A) An investor with a single-asset portfolio.
B) An investor with a 50-asset portfolio.
C) An investor who is not completely diversified.
D) An investor who is so risk-averse that he does not recognise the benefits of diversification.

Accepted Answer

The answer of Which of the following investors should be...

Quiz 7: Risk and Return

Batman Stock has exhibited a standard deviation in share returns of 0.5, whereas Superman Stock has exhibited a standard deviation of 0.6. The correlation coefficient between the share returns is 0.5. What is the variance of a portfolio composed of 70 per cent Batman and 30 per cent Superman?

Horse Stock returns have exhibited a standard deviation of 0.57, whereas Mod T Stock returns have a standard deviation of 0.63. The correlation coefficient between the returns is 0.078042. What is the covariance of the returns?

Explain the difference between systematic and nonsystematic risk.

Most of the risk-reduction benefits from diversification can be achieved in a portfolio consisting of

The expected return on Mike's Seafood shares is 10.8 per cent. If the expected return on the market is 10 per cent and the beta for Kiwi is 1.7, then what is the risk-free rate?

The expected return on Kiwi Computers shares is 16.6 per cent. If the risk-free rate is 4 per cent and the expected return on the market is 10 per cent, then what is Kiwi's beta?

The expected return on KarolCo. shares is 16.5 per cent. If the risk-free rate is 5 per cent and the beta of KarolCo is 2.3, then what is the risk premium on the market?

The beta of RicciCo.'s share is 3.2, whereas the risk-free rate of return is 9 per cent. If the expected return on the market is 18 per cent, then what is the expected return on RicciCo.?

A portfolio with a level of systematic risk the same as that of the market has a beta that is

The beta of Elsenore, Ltd., share is 1.6, whereas the risk-free rate of return is 8 per cent. If the expected return on the market is 15 per cent, then what is the expected return on Elsenore?

The risk-free rate of return is currently 3 per cent, whereas the market risk premium is 6 per cent. If the beta of Lenz, Ltd., share is 1.8, then what is the expected return on Lenz?

Which of the following investors should be willing to pay the highest price for an asset?