978-0134083308 Chapter 5 Part 3

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6) The risk premium to be used in the Capital Asset Pricing Model is calculated as (rrf-rm).

AACSB: 3 Analytical thinking

Question Status: New Question

Learning Goal: Learning Goal 4

7) You have gathered the following information concerning a particular investment and

conditions in the market.

According to the Capital Asset Pricing Model, the required return for this investment is

A) 8.85%.

B) 11.48%.

C) 13.98%.

D) 14.85%.

role in shaping investment choices

AACSB: 3 Analytical thinking

Question Status: Previous Edition

Learning Goal: Learning Goal 4

8) OKAY stock has a beta of 0.8. The market as a whole is expected to decline by 12% thereby

causing OKAY stock to

A) decline by 9.6%.

B) decline by 12.5%.

C) increase by 9.6%.

D) increase by 12%.

role in shaping investment choices

AACSB: 3 Analytical thinking

Question Status: New Question

Learning Goal: Learning Goal 4

9) The Capital Asset Pricing Model (CAPM) is a mathematical model that depicts the

A) positive relationship between risk and return.

B) standard deviation between a risk premium and an investment’s expected return.

C) exact price that an investor should be willing to pay for any given investment.

D) difference between a risk-free return and the expected rate of inflation.

role in shaping investment choices

AACSB: 3 Analytical thinking

Question Status: Previous Edition

Learning Goal: Learning Goal 4

10) When the Capital Asset Pricing Model is depicted graphically, the result is the

A) standard deviation line.

B) coefficient of variation line.

C) security market line.

D) alpha-beta line.

role in shaping investment choices

AACSB: 3 Analytical thinking

Question Status: Previous Edition

Learning Goal: Learning Goal 4

11) Which of the following factors comprise the CAPM?

I. dividend yield

II. risk-free rate of return

III. the expected rate of return on the market

IV. risk premium for the firm

A) I and III only

B) II and IV only

C) III and IV only

D) II, III and IV only

role in shaping investment choices

AACSB: 3 Analytical thinking

Question Status: Previous Edition

Learning Goal: Learning Goal 4

12) The Franko Company has a beta of 1.90. By what percent will the required rate of return on

the stock of Franko Company increase if the expected market rate of return rises by 3%?

A) 1.91%

B) 2.75%

C) 3.27%

D) 5.70%

role in shaping investment choices

AACSB: 3 Analytical thinking

Question Status: New Question

Learning Goal: Learning Goal 4

13) What is the expected return on a stock with a beta of 1.09, a market risk premium of 8%,

and a risk-free rate of 4%?

A) 4.36%

B) 8.36%

C) 8.72%

D) 12.72%

role in shaping investment choices

AACSB: 3 Analytical thinking

Question Status: Previous Edition

Learning Goal: Learning Goal 4

14) According to MSN money, the stock of Orange Corporation has a beta of 1.5, but according

to Yahoo Finance it is 1.75. The expected rate of return on the market is 12% and the risk free

rate is 2%. What is the difference between the required rates of return calculated using each of

these betas?

A) 1.50%

B) 1.75%

C) 2.0%

D) 2.5%

role in shaping investment choices

AACSB: 3 Analytical thinking

Question Status: Previous Edition

Learning Goal: Learning Goal 4

15) The Capital Asset Pricing Model (CAPM) includes which of the following in its base

assumptions?

I. Investors should earn a minimum return equal to the risk-free rate.

II. Investors in the market should earn a return greater than the return on the overall market.

III. Investors should be rewarded for the amount of risk they assume.

IV. Investors should earn a return located above the Security Market Line.

A) I and III only

B) II and IV only

C) I, II and III only

D) I, III and IV only

role in shaping investment choices

AACSB: 3 Analytical thinking

Question Status: Previous Edition

Learning Goal: Learning Goal 4

16) Small company stocks are yielding 10.7% while the U.S. Treasury bill has a 1.3% yield and

a bank savings account is yielding 0.8%. What is the risk premium on small company stocks?

A) 10.7%

B) 9.4%

C) 12.0%

D) 9.9%

role in shaping investment choices

AACSB: 3 Analytical thinking

Question Status: New Question

Learning Goal: Learning Goal 4

17) The risk-free rate of return is 2% while the market rate of return is 12%. Parson Company

has a historical beta of .85. Today, the beta for Delta Company was adjusted to reflect internal

changes in the structure of the company. The new beta is 1.38. What is the amount of the

change in the expected rate of return for Delta Company based on this revision to beta?

A) 8.5%

B) 5.3%

C) 12.2%

D) 14.0%

role in shaping investment choices

AACSB: 3 Analytical thinking

Question Status: Previous Edition

Learning Goal: Learning Goal 4

18) Which of the following statements about the Security Market Line are correct?

I. The intercept point is the risk-free rate of return.

II. The slope of the line is beta.

III. An investor should accept any return located above the SML line.

IV. A beta of 1.0 indicates the risk-free rate of return.

A) I and II only

B) III and IV only

C) II, III and IV only

D) I,II and III only

role in shaping investment choices

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Learning Goal: Learning Goal 4

5.5 Learning Goal 5

1) Both the efficient frontier and beta are important aspects of MPT.

AACSB: 8 Application of knowledge (Able to translate knowledge of business and management

into practice)

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Learning Goal: Learning Goal 5

2) Portfolios located on the efficient frontier are preferable to all other portfolios in the feasible

set.

AACSB: 8 Application of knowledge (Able to translate knowledge of business and management

into practice)

Question Status: Previous Edition

Learning Goal: Learning Goal 5

3) Portfolios C and X each have expected rates of return of 12%. C’s beta is .9; X’s beta is 1.1,

therefore C dominates X.

AACSB: 8 Application of knowledge (Able to translate knowledge of business and management

into practice)

Question Status: New Question

Learning Goal: Learning Goal 5

4) Modern portfolio theory seeks to minimize risk and maximize return by combining highly

correlated assets.

AACSB: 8 Application of knowledge (Able to translate knowledge of business and management

into practice)

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Learning Goal: Learning Goal 5

5) Traditional portfolio management

A) concentrates on only the most recent “hot” sectors of the market.

B) typically centers on interindustry diversification.

C) uses portfolio betas and standard deviations to minimize risk.

D) is based on statistical measures to develop the portfolio plan.

AACSB: 8 Application of knowledge (Able to translate knowledge of business and management

into practice)

Question Status: Previous Edition

Learning Goal: Learning Goal 5

6) Traditional portfolio managers prefer well-known companies because

I. stocks of well-known firms tend to be less risky than stocks of lesser-known firms.

II. individuals are more apt to purchase a mutual fund if it contains stocks of well-known firms.

III. window dressing encourages the purchase of well-known stocks.

IV. institutional investors tend to exhibit “herd-like” behavior.

A) I only

B) I and II only

C) II and III only

D) I, II , III and IV

AACSB: 8 Application of knowledge (Able to translate knowledge of business and management

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Question Status: Previous Edition

Learning Goal: Learning Goal 5

7) Which of the following measures or concepts are deliberately used by modern portfolio

theory?

I. beta

II. inter industry diversification

III. efficient frontier

IV. correlation

A) II and III only

B) I and IV only

C) I, III and IV only

D) I, II, III and IV

AACSB: 8 Application of knowledge (Able to translate knowledge of business and management

into practice)

Question Status: Previous Edition

Learning Goal: Learning Goal 5

8) Portfolios falling to the left of the efficient frontier

A) have too much risk for the expected return.

B) would be desirable if only they were possible.

C) do not use all of the assets in the portfolio.

D) fall within the set of feasible portfolios.

AACSB: 8 Application of knowledge (Able to translate knowledge of business and management

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Question Status: Previous Edition

Learning Goal: Learning Goal 5

9) The efficient frontier

A) is represented by the rightmost boundary of the feasible set of portfolios.

B) represents the best attainable tradeoff between risk and return.

C) includes all feasible sets of portfolios based on risk and return characteristics.

D) provides the highest level of risk for the lowest level of return.

AACSB: 8 Application of knowledge (Able to translate knowledge of business and management

into practice)

Question Status: Previous Edition

Learning Goal: Learning Goal 5