Deck 11: Risk and Return

Question 1

Which one of the following is the best definition of the term 'expected return' as it applies to the concept of risk and return?

A)the guaranteed return on a short-term treasury security which will be earned in the future
B)the difference between the expected return on a risky asset and the expected rate of inflation
C)the certain return on a risk-free asset which is going to be earned in the future
D)the difference between the expected return on a risky asset and the certain return on a risk-free asset
E)the return on a risky asset which is expected in the future

Answer 1

the return on a risky asset which is expected in the future

Question 2

A portfolio weight is defined as the:

A)total current market value of an entire portfolio of diversified holdings
B)total market value of a portfolio divided by the total book value of that portfolio
C)current value of a portfolio minus the value one year ago,divided by the value one year ago
D)total number of shares in a particular asset divided by the total number of shares held in a portfolio
E)percentage of a portfolio's total value that is invested in a particular asset

Answer 2

percentage of a portfolio's total value that is invested in a particular asset

Question 3

The market risk premium is the:

A)total return earned by a portfolio based on a market basket of securities
B)net present value of the additional return an investor receives for bearing risk
C)difference between the expected return on a market portfolio and the risk-free rate of return
D)difference between the expected return on an individual security and that of the overall market
E)difference in returns on a risky asset for the current year as compared to the prior year

Answer 3

difference between the expected return on a market portfolio and the risk-free rate of return

Question 4

The beta of a risk-free security is _____ and the beta of the overall market is:

A)1;0
B)infinite;1
C)1;1
D)0;0
E)0;1

Question 5

Unsystematic risk is defined as the risk:

A)that applies to an individual's portfolio
B)that affects a small number of securities
C)that affects the entire market
D)associated with unexpected events of any nature
E)derived solely from expected events

Question 6

Which one of the following is the best example of an event related to an expected return?

A)an announcement that a firm will meet its sales projections
B)a GDP growth rate that surpassed predictions
C)a market decline due to increased tensions in the world
D)a news release that a firm is going to be acquired at a premium
E)a sudden increase in the inflation rate

Question 7

The amount of compensation an investor should expect for accepting unsystematic risk:

A)is $0
B)is equal to the market risk premium
C)is equal to beta multiplied by the market rate of return
D)varies indirectly with the beta of the firm
E)is equal to the beta of the firm multiplied by the market risk premium

Question 8

The beta of a portfolio cannot be less than _____ and no more than _____:

A)0;1
B)the lowest individual beta in the portfolio;the highest individual beta in the portfolio
C)the lowest individual beta in the portfolio;1
D)0;the highest individual beta in the portfolio
E)1;2

Question 9

The following table details an analyst's prediction of the probabilities of different states of the market over the next year,along with the forecast returns on security Alpha-a share of a company in a cyclical industry in each different market state.
What is the expected return and standard deviation of returns on security Alpha?

A)8.50% and 9.09%
B)8.20% and 4.26%
C)7.80% and 9.09%
D)8.50% and 0.83%
E)6.52% and 8.26%

Question 10

The risk associated with the overall market is referred to as _____ risk.

A)portfolio
B)total
C)diversified
D)unsystematic
E)systematic

Question 11

Consider the following information on three securities:
Security ______ has the greatest total risk,and security _______ will have the highest risk premium.

A)B;C
B)A;B
C)C;B
D)C;A
E)A;A

Question 12

If the reward-to-risk ratio of a security is greater than that supported by the security market line,then the security:

A)is one which compensates investors for the total risk associated with that security
B)is one which compensates investors for unsystematic risk
C)is under-priced in the marketplace
D)must have a beta which is greater than 1.0
E)must be trading in a market which is strong-form efficient

Question 13

The slope of the security market line is equal to:

A)the return on the market
B)the market risk premium
C)1 minus the risk-free rate of return
D)the risk-free rate plus the market risk premium
E)the risk-free rate of return,plus beta times the market risk premium

Question 14

Suppose an investor created the following portfolio:
What is the expected return on this portfolio?

A)9.7%
B)10%
C)12.5%
D)15%
E)8.5%

Question 15

The amount of systematic risk present in a particular risky asset relative to that in an average risky asset is called the:

A)market risk premium
B)beta coefficient
C)security's alpha
D)standard deviation
E)asset mean

Question 16

The Capital Assets Pricing Model (CAPM)shows that the expected return for a particular asset depends mostly on:

A)the expected dividend growth
B)the pure time value of money
C)the reward for bearing non-systematic risk
D)the amount of non-systematic risk
E)the state of economy

Question 17

Suppose an investor created the following portfolio:
What is the portfolio beta?

A)0.71
B)0.60
C)0.95
D)0
E)1.00

Question 18

Which one of the following is considered an example of systematic risk?

A)a higher inflation rate than predicted
B)an increase in overseas sales for a conglomerate,such as General Electric
C)resignation of a firm's chief financial officer
D)higher company profits than those forecasted
E)lower company sales than predicted

Question 19

Consider the following information on two securities:
What is the risk-free rate?

A)10%
B)8%
C)5%
D)6%
E)9%

Question 20

Total risk is:

A)another term for systematic risk
B)another term for diversifiable risk
C)measured by beta
D)measured by standard deviation
E)another term for the market risk premium

Question 21

The addition of a risky security to a fully diversified portfolio:

A)will increase the unsystematic risk of the portfolio
B)may or may not affect the portfolio beta
C)must decrease the portfolio's expected return
D)must increase the portfolio beta
E)will have no effect on the portfolio beta or its expected return

Question 22

Which one of the following statements is correct?

A)The expected rate of return on any security,given multiple states of the economy,must be positive.
B)There is an inverse relationship between the level of risk and the risk premium given a risky security.
C)If a risky security is priced correctly,it will have an expected return equal to the risk-free rate.
D)The risk premium on a risk-free security is generally considered to be one per cent.
E)If a risky security is correctly priced,its expected risk premium will be positive.

Question 23

What is the expected return on a security given the following information?

A)9.43 per cent
B)9.97 per cent
C)11.38 per cent
D)10.11 per cent
E)8.78 per cent

Question 24

Mary owns a risky stock and anticipates earning 16.5 per cent on her investment in that stock.Which one of the following best describes the 16.5 per cent rate?

A)risk premium
B)expected return
C)systematic return
D)real return
E)market rate

Question 25

The systematic risk principle states that the expected return on a risky asset depends only on which one of the following?

A)unique risk
B)diversifiable risk
C)market risk
D)asset-specific risk
E)unsystematic risk

Question 26

Which one of the following best describes a portfolio?

A)investment in a risk-free security
B)security equally as risky as the overall market
C)group of assets held by an investor
D)risky security
E)new issue of stock

Question 27

A stock is expected to return 13 per cent in an economic boom,10 per cent in a normal economy,and 3 per cent in a recessionary economy.Which one of the following will lower the overall expected rate of return on this stock?

A)an increase in the probability of an economic boom
B)an increase in the rate of return for a normal economy
C)an increase in the rate of return in a recessionary economy
D)a decrease in the probability of an economic boom
E)a decrease in the probability of a recession occurring

Question 28

You own a $46 000 portfolio comprised of four stocks.The values of stocks A,B,and C are $5600,$16 700,and $11 400,respectively.What is the portfolio weight of stock D?

A)30.33 per cent
B)32.58 per cent
C)32.10 per cent
D)26.74 per cent
E)28.39 per cent

Question 29

Based on the capital asset pricing model,a security that:

A)has a beta of 1.2 will plot as a point to the left of the overall market point
B)is over-priced will plot as a point below the security market line
C)has a beta of 1.0 should produce the risk-free rate of return
D)has a beta of 0.9 will plot as a point below the security market line
E)is under-priced will plot as a point to the left of the overall market point

Question 30

Which one of the following measures the amount of systematic risk present in a particular risky asset relative to that in an average risky asset?

A)variance
B)squared deviation
C)standard deviation
D)mean
E)beta coefficient

Question 31

Stock J has a beta of 1.17 and an expected return of 14.4 per cent,while Stock K has a beta of 0.68 and an expected return of 7.6 per cent.You want a portfolio with the same risk as the market.What is the expected return of your portfolio?

A)12.04 per cent
B)13.13 per cent
C)10.67 per cent
D)11.62 per cent
E)11.18 per cent

Question 32

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

A)a decrease in the value of the dollar
B)inflation exceeding market expectations
C)a warehouse fire
D)a decrease in corporate tax rates
E)an increase in consumer spending

Question 33

Northern Wear stock has an expected return of 14.6 per cent.Given the information below,what is the expected return on this stock if the economy is normal?

A)16 per cent
B)13 per cent
C)23 per cent
D)21 per cent
E)18 per cent

Question 34

Diversifying a portfolio across various sectors and industries might do more than one of the following.However,this diversification must do which one of the following?

A)reduce the portfolio's systematic risk level
B)reduce the beta of the portfolio to zero
C)increase the security's risk premium
D)increase the expected risk premium
E)reduce the portfolio's unique risks

Question 35

Which one of the following is the best example of an announcement that is most apt to result in an unexpected return?

A)the verification by senior management that the firm is being acquired as had been rumored
B)a statement by a firm that it has just discovered a manufacturing defect and is recalling its product
C)an announcement that a firm will continue its practice of paying a $3 a share annual dividend
D)an announcement that the CFO of the firm is retiring June 1^st as previously announced
E)a news bulletin that the anticipated lay-offs in a firm will occur as expected on December 1

Question 36

Stock A comprises 28 per cent of Susan's portfolio.Which one of the following terms applies to the 28 per cent?

A)portfolio standard deviation
B)portfolio expected return
C)portfolio weight
D)portfolio variance
E)portfolio beta

Question 37

Portfolio diversification eliminates which one of the following?

A)unsystematic risk
B)reward for bearing risk
C)total investment risk
D)portfolio risk premium
E)market risk

Question 38

Which one of the following terms best refers to the practice of investing in a variety of diverse assets as a means of reducing risk?

A)capital asset pricing model
B)systematic
C)diversification
D)unsystematic
E)security market line

Question 39

Candy and More stock is expected to produce the following returns given the various states of the economy.What is the expected return on this stock?

A)9.90 per cent
B)7.89 per cent
C)9.43 per cent
D)10.02 per cent
E)8.56 per cent

Question 40

A stock has an expected return of 14.3 per cent,the risk-free rate is 3.2 per cent,and the market risk premium is 8.1 per cent.What must the beta of this stock be?

A)1.21
B)0.94
C)1.08
D)1.37
E)0.88

Question 41

Which one of the following portfolios will have a beta of zero?

A)a portfolio that is equally as risky as the overall market
B)a portfolio with a zero variance of returns
C)no portfolio can have a beta of zero
D)a portfolio that consists of a single stock
E)a portfolio comprised solely of Australian Government Treasury notes

Question 42

Bondi Beachwear has an expected return of 12.9 per cent and a beta of 1.21.The expected return on the market is 11.7 per cent.What is the risk-free rate?

A)3.87 per cent
B)5.99 per cent
C)5.38 per cent
D)4.24 per cent
E)4.61 per cent

Question 43

The principle of diversification tells us that:

A)there is no risk in investing in a portfolio of shares
B)spreading your investment across many assets will eliminate some risk
C)all risk can be eliminated
D)unsystematic risk cannot be reduced
E)systematic risk can always be eliminated by diversification

Question 44

Which of the following terms can be used to describe unsystematic risk?
I.asset-specific risk
II.diversifiable risk
III.market risk
IV.unique risk

A)I and IV only
B)I,II,III and IV
C)II and III only
D)II,III and IV only
E)I,II and IV only

Question 45

Manly Manufacturing Pty Ltd stock has an expected return of 14.47 per cent.The risk-free rate is 3.8 per cent and the market risk premium is 8.6 per cent.What is the stock's beta?

A)1.21
B)1.28
C)1.24
D)1.32
E)1.19

Question 46

Diversifiable risk is interchangeable with which term?

A)unsystematic risk
B)market risk premium
C)systematic risk
D)risk premium
E)market risk

Question 47

A stock has a beta of 1.24,an expected return of 13.68 per cent,and lies on the security market line.A risk-free asset is yielding 2.8 per cent.You want to create a $6,000 portfolio consisting of Stock A and the risk-free security such that the portfolio beta is 0.65.What rate of return should you expect to earn on your portfolio?

A)9.56 per cent
B)8.50 per cent
C)9.16 per cent
D)9.33 per cent
E)9.41 per cent

Question 48

You own a portfolio equally invested in a risk-free asset and two stocks.If one of the stocks has a beta of 1.04 and the total portfolio is equally as risky as the market,what must the beta be for the other stock in your portfolio?

A)1.37
B)1.54
C)2.97
D)1.96
E)2.30