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Exam
Name___________________________________
MULTIPLE CHOICE. Choose the one alternative that best completes the statement or answers the question.
1)
Which of the following statements is false?
1)
A)
The variance of a portfolio is equal to the weighted average covariances of each stock within
the portfolio.
B)
The volatility declines as the number of stocks in a portfolio grows.
C)
The variance of a portfolio is equal to the weighted average correlation of each stock within
the portfolio.
D)
The variance of a portfolio is equal to the sum of the covariances of the returns of all pairs of
stocks in the portfolio multiplied by each of their portfolio weights.
Use the table for the question(s) below.
Consider the following returns:
Year End
Lowes
Realized
Return
Home Depot
Realized
Return
IBM
Realized
Return
2000 20.1% -14.6% 0.2%
2001 72.7% 4.3% -3.2%
2002 -25.7% -58.1% -27.0%
2003 56.9% 71.1% 27.9%
2004 6.7% 17.3% -5.1%
2005 17.9% 0.9% -11.3%
2)
The covariance between Lowes' and Home Depot's returns is closest to:
2)
A)
0.29
B)
0.69
C)
0.10
D)
0.12
Use the information for the question(s) below.
You are presently invested in the Luther Fund, a broad based mutual fund that invest in stocks and other securities. The
Luther Fund has an expected return of 14% and a volatility of 20%. Risk-free Treasury bills are currently offering returns of
4%. You are considering adding a precious metals fund to your current portfolio. The metals fund has an expected return of
10% , a volatility of 30%, and a correlation of -.20 with the Luther Fund.
3)
The expected return on the precious metals fund is closest to:
3)
A)
10%
B)
1%
C)
4%
D)
-3%
Use the information for the question(s) below.
Suppose you have $10,000 in cash and you decide to borrow another $10,000 at a 6% interest rate to invest in the stock
market. You invest the entire $20,000 in an exchange traded fund (ETF) with a 12% expected return and a 20% volatility.
4)
The volatility of your of your investment is closest to:
4)
A)
24%
B)
20%
C)
40%
D)
30%
Use the information for the question(s) below.
You are presently invested in the Luther Fund, a broad based mutual fund that invest in stocks and other securities. The
Luther Fund has an expected return of 14% and a volatility of 20%. Risk-free Treasury bills are currently offering returns of
4%. You are considering adding a precious metals fund to your current portfolio. The metals fund has an expected return of
10% , a volatility of 30%, and a correlation of -.20 with the Luther Fund.
5)
The beta of the precious metals fund with the Luther Fund Luther
Metals is closest to:
5)
A)
0.6
B)
-0.6
C)
0.3
D)
-0.3
6)
Which of the following statements is false?
6)
A)
The volatility of the portfolio will differ, depending on the correlation between the securities
in the portfolio.
B)
We say a portfolio is an efficient portfolio whenever it is possible to find another portfolio that
is better in terms of both expected return and volatility.
C)
We can rule out inefficient portfolios because they represent inferior investment choices.
D)
Correlation has no effect on the expected return on a portfolio.
Use the table for the question(s) below.
Consider the following covariances between securities:
Duke Microsoft Wal-Mart
Duke 0.0568 -0.0193 0.0037
Microsoft -0.0193 0.2420 0.1277
Wal-Mart 0.0037 0.1277 0.1413
7)
The variance on a portfolio that is made up of a $6000 investments in Duke Energy and a $4000
investment in Wal-Mart stock is closest to:
7)
A)
.051
B)
.050
C)
-0.020
D)
.045
Use the information for the question(s) below.
Suppose you have $10,000 in cash and you decide to borrow another $10,000 at a 6% interest rate to invest in the stock
market. You invest the entire $20,000 in an exchange traded fund (ETF) with a 12% expected return and a 20% volatility.
8)
Assume that the EFT you invested in returns -10%, then the realized return on your investment is
closest to:
8)
A)
-26%
B)
-24%
C)
-20%
D)
-10%
Use the information for the question(s) below.
Suppose that you currently have $250,000 invested in a portfolio with an expected return of 12% and a volatility of 10%. The
efficient (tangent) portfolio has an expected return of 17% and a volatility of 12%. The risk-free rate of interest is 5%.
9)
You want to maximize your expected return without increasing your risk. Without increasing your
volatility beyond its current 10%, the maximum expected return you could earn is closest to:
9)
A)
.12.0%
B)
13.4%
C)
15.0%
D)
12.5%
10)
Suppose you have $10,000 in cash to invest. You decide to sell short $5,000 worth of Kinston stock
and invest the proceeds from your short sale, plus your $10,000 into one-year U.S. treasury bills
earning 5%. At the end of the year, you decide to liquidate your portfolio. Kinston Industries has
the following realized returns:
P0Div1P1
Kinston $25.00 $1.00 $29.00
The return on your portfolio is closest to?
10)
A)
-0.5%
B)
-2.5%
C)
14.5%
D)
13.5%
11)
Which of the following statements is false?
11)
A)
The volatility declines as the number of stocks in a portfolio grows.
B)
As the number of stocks in a portfolio grows large, the variance of the portfolio is determined
primarily by the average covariance among the stocks.
C)
An equally weighted portfolio is a portfolio in which the same amount is invested in each
stock.
D)
When combining stocks into a portfolio that puts positive weight on each stock, unless all of
the stocks are uncorrelated with the portfolio, the risk of the portfolio will be lower than the
weighted average volatility of the individual stocks.
Use the table for the question(s) below.
Consider the following expected returns, volatilities, and correlations:
Stock
Expected
Return
Standard
Deviation
Correlation with
Duke Energy
Correlation with
Microsoft
Correlation with
Wal-Mart
Duke Energy 14% 6% 1.0 -1.0 0.0
Microsoft 44% 24% -1.0 1.0 0.7
Wal-Mart 23% 14% 0.0 0.7 1.0
12)
Consider a portfolio consisting of only Duke Energy and Microsoft. The percentage of your
investment (portfolio weight) that you would place in Duke Energy stock to achieve a risk-free
investment would be closest to:
12)
A)
23%
B)
15%
C)
10%
D)
4%
13)
Which of the following statements is false?
13)
A)
The efficient portfolio is the tangent portfolio, the portfolio with the highest Sharpe ratio in
the economy.
B)
The optimal portfolio of risky investments depends on how conservative or aggressive the
investor is.
C)
The tangent portfolio is efficient and that, once we include the risk-free investment, all
efficient portfolios are combinations of the risk-free investment and the tangent portfolio.
D)
By combining the efficient portfolio with the risk-free investment, an investor will earn the
highest possible expected return for any level of volatility her or she is willing to bear.
Use the table for the question(s) below.
Consider the following returns:
Year End
Lowes
Realized
Return
Home Depot
Realized
Return
IBM
Realized
Return
2000 20.1% -14.6% 0.2%
2001 72.7% 4.3% -3.2%
2002 -25.7% -58.1% -27.0%
2003 56.9% 71.1% 27.9%
2004 6.7% 17.3% -5.1%
2005 17.9% 0.9% -11.3%
14)
The Volatility on Lowes' returns is closest to:
14)
A)
10%
B)
42%
C)
13%
D)
35%
15)
Which of the following statements is false?
15)
A)
Increasing the investment in investment I will increase the Sharpe ratio of portfolio P if its
expected return E[Ri] exceeds the required return ri, which is given by ri=rf+p
i× (E[Rp] -
rf).
B)
A portfolio is efficient if it has the highest possible Sharpe ratio; that is it is efficient if it
provides the largest increase in expected return possible for a given increase in volatility.
C)
The required return for an investment is equal to a risk premium that is equal to the risk
premium of the investor's current portfolio scaled by p
i.
D)
If a security i's expected return is less than the required return ri, we should reduce our
holding of security i.
16)
Which of the following statements is false?
16)
A)
The Sharpe ratio if the portfolio tells us how much our expected return will increase for a
given increase in volatility.
B)
We should continue to trade securities until the expected return of each security equals its
required return.
C)
If security i’s required return exceeds its expected return, then adding more of it will improve
the performance of the portfolio.
D)
The required return is the expected return that is necessary to compensate for the risk that an
investment will contribute to the portfolio.
17)
Which of the following statements is false?
17)
A)
Efficient portfolios can be easily ranked, because investors will choose from among them
those with the highest expected returns.
B)
When stocks are perfectly positively correlated, the set of portfolios is identified graphically
by a straight line between them.
C)
When the correlation between securities is less than 1, the volatility of the portfolio is reduced
due to diversification.
D)
An investor seeking high returns and low volatility should only invest in an efficient
portfolio.
18)
Which of the following equations is incorrect?
18)
A)
Corr(Ri,Rj) =
Cov(Ri,Rj)
Var(Ri)Var(Rj)
B)
Cov(Ri,Rj) = E[(Ri-E[Ri])(Rj-E[Rj])]
C)
Cov(Ri,Rj) =1
T- 1 (Ri-Ri)(Rj-Rj)
D)
Var(Rp) =x12Var(R1) +x22Var(R2) + 2X1X2Cov(R1,R2)
Use the information for the question(s) below.
Suppose you invest $20,000 by purchasing 200 shares of Abbott Labs (ABT) at $50 per share, 200 shares of Lowes (LOW) at
$30 per share, and 100 shares of Ball Corporation (BLL) at $40 per share.
19)
The weight on Ball Corporation in your portfolio is:
19)
A)
30%
B)
50%
C)
20%
D)
40%
20)
Which of the following statements is false?
20)
A)
An investor's preferences will determine only how much to invest in the tangent or efficient
portfolio versus the risk-free investment.
B)
Only aggressive investors will choose to hold the portfolio of risky assets, the tangent or
efficient portfolio.
C)
Conservative investors will invest a small amount in the tangent or efficient portfolio,
choosing a portfolio on the line near the risk-free investment
D)
Aggressive investors will invest more in the tangent portfolio choosing a portfolio that is near
the tangent portfolio or even beyond it by buying stocks on margin.
Use the information for the question(s) below.
Suppose you invest $20,000 by purchasing 200 shares of Abbott Labs (ABT) at $50 per share, 200 shares of Lowes (LOW) at
$30 per share, and 100 shares of Ball Corporation (BLL) at $40 per share.
21)
The weight on Lowes in your portfolio is:
21)
A)
30%
B)
40%
C)
50%
D)
20%
Use the information for the question(s) below.
Suppose that you currently have $250,000 invested in a portfolio with an expected return of 12% and a volatility of 10%. The
efficient (tangent) portfolio has an expected return of 17% and a volatility of 12%. The risk-free rate of interest is 5%.
22)
The Sharpe ratio for your portfolio is closest to:
22)
A)
0.7
B)
1.0
C)
1.2
D)
0.6
23)
Which of the following statements is false?
23)
A)
We say a portfolio is long those stocks that have negative portfolio weights.
B)
The lower the correlation of the securities in a portfolio the lower the volatility we can obtain.
C)
The efficient portfolios are those portfolios offering the highest possible expected return for a
given level of volatility.
D)
When two stocks are perfectly negatively correlated, it becomes possible to hold a portfolio
that bears absolutely no risk.
Use the table for the question(s) below.
Consider the following returns:
Year End
Lowes
Realized
Return
Home Depot
Realized
Return
IBM
Realized
Return
2000 20.1% -14.6% 0.2%
2001 72.7% 4.3% -3.2%
2002 -25.7% -58.1% -27.0%
2003 56.9% 71.1% 27.9%
2004 6.7% 17.3% -5.1%
2005 17.9% 0.9% -11.3%
24)
The Correlation between Lowes' and Home Depot's returns is closest to:
24)
A)
0.69
B)
0.29
C)
0.58
D)
0.10
25)
Which of the following statements is false?
25)
A)
Correlation is the expected product of the deviations of two returns.
B)
The amount of risk that is eliminated in a portfolio depends on the degree to which the stocks
face common risks and their prices move together.
C)
Because the prices of the stocks do not move identically, some of the risk is averaged out in a
portfolio.
D)
The covariance and correlation allow us to measure the co-movement of returns.
Use the table for the question(s) below.
Consider the following returns:
Year End
Lowes
Realized
Return
Home Depot
Realized
Return
IBM
Realized
Return
2000 20.1% -14.6% 0.2%
2001 72.7% 4.3% -3.2%
2002 -25.7% -58.1% -27.0%
2003 56.9% 71.1% 27.9%
2004 6.7% 17.3% -5.1%
2005 17.9% 0.9% -11.3%
26)
The Correlation between Lowes' and IBM's returns is closest to:
26)
A)
0.60
B)
0.05
C)
0.71
D)
0.62
Use the information for the question(s) below.
Sisyphean industries is seeking to raise capital from a large group of investors to fund a new project. Suppose that the
efficient portfolio has an expected return of 14% and a volatility of 20%. Sisyphean's new project is expected to have a
volatility of 40% and a 70% correlation with the efficient portfolio. The risk-free rate is 4%.
27)
The beta for Sisyphean's new project is closest to:
27)
A)
1.25
B)
1.75
C)
1.40
D)
0.70
28)
Which of the following statements is false?
28)
A)
A portfolio weight is the fraction of the total investment in the portfolio held in an individual
investment in the portfolio.
B)
Portfolio weights add up to 1 so that they represent the way we have divided our money
between the different individual investments in the portfolio.
C)
Without trading, the portfolio weights will decrease for the stocks in the portfolio whose
returns are above the overall portfolio return.
D)
The expected return of a portfolio is simply the weighted average of the expected returns of
the investments within the portfolio.
29)
Which of the following statements is false?
29)
A)
A positive investment in a security can be referred to as a long position in the security.
B)
It is possible to invest a negative amount in a stock or security call a short position.
C)
The efficient portfolios are those portfolios offering the lowest possible level of volatility for a
given level of expected return.
D)
A short sale is a transaction in which you buy a stock that you do not own and then agree to
sell that stock back in the future.
Use the information for the question(s) below.
Suppose that you currently have $250,000 invested in a portfolio with an expected return of 12% and a volatility of 10%. The
efficient (tangent) portfolio has an expected return of 17% and a volatility of 12%. The risk-free rate of interest is 5%.
30)
The Sharpe ratio for the efficient portfolio is closest to:
30)
A)
1.0
B)
1.2
C)
1.4
D)
0.7
31)
Which of the following statements is false?
31)
A)
To earn the highest possible expected return for any level of volatility we must find the
portfolio that generates the steepest possible line when combined with the risk-free
investment.
B)
Every investor should invest in the tangent portfolio independent of his or her taste for risk.
C)
As we increase the fraction invested in the efficient portfolio, we increase our risk premium
but not our risk proportionately.
D)
If we increase the fraction invested in the efficient portfolio beyond 100%m we are short
selling the risk-free investment.
Use the information for the question(s) below.
Suppose you invest $20,000 by purchasing 200 shares of Abbott Labs (ABT) at $50 per share, 200 shares of Lowes (LOW) at
$30 per share, and 100 shares of Ball Corporation (BLL) at $40 per share.
32)
Suppose over the next year Ball has a return of 12.5%, Lowes has a return of 20%, and Abbott Labs
has a return of -10%. The weight on Lowes in your portfolio after one year is closest to:
32)
A)
34.8%
B)
20.0%
C)
30.0%
D)
36.0%
33)
Suppose over the next year Ball has a return of 12.5%, Lowes has a return of 20%, and Abbott Labs
has a return of -10%. The value of your portfolio over the year is?
33)
A)
$20,700
B)
$21,500
C)
$21,000
D)
$20,000
34)
Suppose over the next year Ball has a return of 12.5%, Lowes has a return of 20%, and Abbott Labs
has a return of -10%. The return on your portfolio over the year is:
34)
A)
5.0%
B)
3.5%
C)
0%
D)
7.5%
35)
Which of the following statements is false?
35)
A)
If a security's expected return exceeds its required return given our current portfolio, then we
can improve the performance of our portfolio by adding more of the security.
B)
Because all other risk is diversifiable, it is an investment’s beta with respect to the efficient
portfolio that measures its sensitivity to systematic risk, and therefore determines its cost of
capital.
C)
The appropriate risk premium for an investment can be determined from its beta with the
efficient portfolio.
D)
As we buy shares of a security i, its correlation with our portfolio P will increase, ultimately
raising its required return until E[Ri] =Rp.
36)
Which of the following statements is false?
36)
A)
Because our return on the risk-free investments is fixed and does not move with (or against)
our portfolio, the correlation between the risk-free investment and the portfolio is always
equal to one.
B)
Margin investing is a risky investment strategy.
C)
Short selling the risk free investment is equivalent to borrowing money at the risk-free
interest rate through a standard loan.
D)
Margin investing can provide higher expected returns than investing in the efficient portfolio
using only the funds we have available.
37)
Which of the following statements is false?
37)
A)
Volatility is the square root of variance.
B)
Dividing the covariance by the volatilities ensures that correlation is always between -1 and
+1.
C)
The closer the correlation is to 0, the more the returns tend to move together as a result of
common risk.
D)
If two stocks move together, their returns will tend to be above or below average at the same
time, and the covariance will be positive.
38)
Which of the following statements is false?
38)
A)
The covariance allows us to gauge the strength of the relationship between stocks.
B)
If two stocks move in opposite directions, one will tend to be above average when to other is
below average, and the covariance will be negative.
C)
The correlation between two stocks has the same sign as their covariance, so it has a similar
interpretation.
D)
The covariance of a stock with itself is simply its variance.
39)
Which of the following statements is false?
39)
A)
To arrive at the best possible set of risk and return opportunities, we should keep adding
stocks until all investment opportunities are represented.
B)
We say a portfolio is short those stocks that have negative portfolio weights.
C)
Adding new investment opportunities allows for greater diversification and improves the
efficient frontier.
D)
Graphically, the efficient portfolios are those on the northeast edge of the set of possible
portfolios, an area which we call the efficient frontier.
40)
Which of the following equations is incorrect?
40)
A)
SD( Rxp) = xSD(Rp)
B)
E[Rxp] =rf+x(E[Rp] -rf)
C)
Sharpe ratio =portfolio return
portfolio volatility
D)
E[Rxp] = (1 -x)rf+xE[Rp]
Use the table for the question(s) below.
Consider the following covariances between securities:
Duke Microsoft Wal-Mart
Duke 0.0568 -0.0193 0.0037
Microsoft -0.0193 0.2420 0.1277
Wal-Mart 0.0037 0.1277 0.1413
41)
The variance on a portfolio that is made up of equal investments in Duke Energy and Microsoft
stock is closest to:
41)
A)
0.090
B)
-0.020
C)
.065
D)
.149
42)
Suppose you invest $15,000 in Merck stock and $25,000 in Home Depot stock. You receive an
actual return of -8% for Merck and 12% for Home Depot. What is the actual return on your
portfolio?
42)
A)
10.00%
B)
4.50%
C)
4.00%
D)
2.00%
43)
Which of the following statements is false?
43)
A)
A stock's return is perfectly positively correlated with itself.
B)
When the covariance equals 0, the stocks have no tendency to move either together or in
opposition of one another.
C)
The variance of a portfolio depends only on the variance of the individual stocks.
D)
The closer the correlation is to -1, the more the returns tend to move in opposite directions.
