Exam
Name___________________________________
MULTIPLE CHOICE. Choose the one alternative that best completes the statement or answers the question.
Use the table for the question(s) below.
Consider the following information regarding the Fama French Carhart four factor model:
Factor
Portfolio
Average
Monthly
Return (%)
IBM
Factor
Betas
GE Factor
Betas
Wal–Mart
Factor
Betas
Rm–rf0.64 0.712 0.937 0.782
SMB 0.17 –0.103 –0.214 0.224
HML 0.53 0.124 0.154 0.123
PR1 YR 0.76 0.276 –0.147 0.247
1)
Using the FFC four factor model and the historical average monthly returns, the expected monthly
return for Wal–Mart is closest to:
1)
A)
0.53%
B)
0.71%
C)
1.38%
D)
0.79%
2)
Which of the following statements is false?
2)
A)
The largest alphas occur in the smallest size deciles.
B)
The size effect is the observation that small stocks have positive alphas.
C)
When considering portfolios formed based on size, although the portfolios with the higher
betas yield higher returns, most size portfolios plot above the security market line.
D)
When considering portfolios formed based on the market–to–book ratio, most of the
portfolios plot below the security market line.
Use the figure for the question(s) below.
Consider the following graph of the security market line:
3)
Which of the following statements regarding portfolio “A” is/are correct?
1. Portfolio “A” has a positive alpha.
2. Portfolio “A” is over priced.
3. Portfolio “A” is less risky than the market portfolio.
4. Portfolio “A” should not exist if the market portfolio is efficient.
3)
A)
1, 2, 3, and 4
B)
1 and 2
C)
1, 3, and 4
D)
1 and 3
Use the equation for the question(s) below.
Consider the following factor model:
E[Rs] –rf=Mkt
s(E[RMkt] –rf) +SMB
sE[RSMB] +HML
sE[RHML] +PR1 YR
sE[RPR1 YR]
4)
The term SMB
s measures the sensitivity of the securities returns to
4)
A)
size.
B)
the overall market.
C)
momentum.
D)
book to market.
5)
Which of the following statements is false?
5)
A)
The only way a positive NPV investment opportunity can exist in a market is if some barrier
to entry restricts competition.
B)
If indeed alphas are positive, it is possible that the positive alpha trading strategies contain
risk that investors are unwilling to bear but the CAPM does not capture.
C)
If indeed alphas are positive, then investors have to be systematically ignoring positive–NPV
investments opportunities.
D)
If indeed alphas are positive, it is possible that the costs of implementing investment
strategies are larger than the NPVs of undertaking them.
Use the information for the question(s) below.
Consider two firms, Chihuahua Corporation and Bernard Industries that are each expected to pay the same $1.5 million
dollar dividend every year in perpetuity. Chihuahua Corporation is riskier and has a cost of capital of 15%. Bernard
Industries is not as shaky as Chihuahua, so Bernard has a cost of capital of only 10%. Assume that the market portfolio is not
efficient. Both stocks have the same beta and the CAPM would assign them both an expected return of 12% to both.
6)
The market value for Chihuahua is closest to:
6)
A)
$15 million
B)
$12.5 million
C)
$10.0 million
D)
$12.0 million
7)
Which of the following statements is false?
7)
A)
A portfolio costs nothing to construct is called a self–financing portfolio.
B)
In general, a self–financing portfolio is any portfolio with portfolio weights that sum to one
rather than zero.
C)
The most obvious portfolio to use in a multifactor model is the market portfolio itself.
D)
We can construct a self–financing portfolio by going long some stocks, and going short other
stocks with equal market value.
In general, a self–financing portfolio is any portfolio with portfolio weights that
8)
Which of the following statements is false?
8)
A)
If the market portfolio is not efficient, then a portfolio of small stocks will likely have positive
alphas.
B)
A momentum strategy is one where you buy stocks that have had low past returns and (short)
sell stocks that have had high past returns.
C)
Over the years since the discovery of the CAPM, it has become increasing clear to researchers
and practitioners alike that forming portfolios based on market capitalization,
book–to–market ratios, and past returns, one can construct trading strategies that have a
positive alpha.
D)
Portfolios containing firms with the highest realized returns over the previous six months
have positive alphas over the next six months.
9)
Various trading strategies appear to offer non–zero alphas when we examine real world data. If
indeed these alphas are positive, it could be explained by any of the following except:
9)
A)
A stock’s beta with the market portfolio does not adequately measure a stock’s systematic
risk.
B)
Investors are systematically ignoring positive–NPV investment opportunities.
C)
The positive alpha trading strategies contain risk that investors are unwilling to bear but the
CAPM does not capture.
D)
The market portfolio is inefficient, but the market portfolio proxy used to calculate the alphas
is efficient.
10)
Which of the following statements is false?
10)
A)
Trading strategies based on market capitalization, book–to–market ratios, and momentum
have been developed that appear to have zero alphas.
B)
Rather than relying on the efficiency of a single portfolio (such as the market), multifactor
models rely on the weaker condition that an efficient portfolio can be constructed from a
collection of well–diversified portfolios or factors.
C)
A positive alpha in a single factor model means that the portfolios that implement the trading
strategy capture risk that is not captured by the market portfolio.
D)
Multifactor models have a distinct advantage over single–factor models in that it is much
easier to identify a collection of portfolios that captures systematic risk than just a single
portfolio.
Use the equation for the question(s) below.
Consider the following regression model:
Rs–rf=s+F1
s(RF1–rf) +F2
s(RF2–rf) +
11)
The term F2
sis a(n)
11)
A)
measure of the expected percent change in the excess return of a security for a 1% change in
the excess return of the first factor portfolio.
B)
constant term.
C)
error term that has an expectation of zero and is uncorrelated with either factor.
D)
measure of the expected percent change in the excess return of a security for a 1% change in
the excess return of the second factor portfolio.
Use the equation for the question(s) below.
Consider the following factor model:
E[Rs] –rf=Mkt
s(E[RMkt] –rf) +SMB
sE[RSMB] +HML
sE[RHML] +PR1 YR
sE[RPR1 YR]
12)
The term HML
s measures the sensitivity of the securities returns to
12)
A)
the overall market.
B)
size.
C)
book to market.
D)
momentum.
13)
Which of the following statements is false?
13)
A)
If investors have a significant amount of non–tradeable wealth, this wealth will be an
important part of their portfolios, but will not be part of the market portfolio of tradeable
securities.
B)
Researchers have found evidence that the presence of human capital can explain at least part
of the reason for the inefficiency of the most commonly used market proxies.
C)
The most important example of non–tradeable wealth is human capital.
D)
If the entire portfolio of investments is efficient, then just the tradeable part of the portfolio
should be efficient also.
Use the equation for the question(s) below.
Consider the following regression model:
Rs–rf=s+F1
s(RF1–rf) +F2
s(RF2–rf) +
14)
The term is a(n)
14)
A)
measure of the expected percent change in the excess return of a security for a 1% change in
the excess return of the second factor portfolio.
B)
constant term.
C)
error term that has an expectation of zero and is uncorrelated with either factor.
D)
measure of the expected percent change in the excess return of a security for a 1% change in
the excess return of the first factor portfolio.
15)
Which of the following statements is false?
15)
A)
An efficient portfolio can be constructed from other diversified portfolios.
B)
It is not actually necessary to identify the efficient portfolio itself. All that is required is to
identify a collection of portfolios from which the efficient portfolio can be constructed.
C)
An efficient portfolio need not be well diversified.
D)
Although we might not be able to identify the efficient portfolio itself, we know some
characteristics of the efficient portfolio.
Use the equation for the question(s) below.
Consider the following factor model:
E[Rs] –rf=Mkt
s(E[RMkt] –rf) +SMB
sE[RSMB] +HML
sE[RHML] +PR1 YR
sE[RPR1 YR]
16)
The term Mkt
s measures the sensitivity of the securities returns to
16)
A)
size.
B)
the overall market.
C)
momentum.
D)
book to market.
Use the figure for the question(s) below.
Consider the following graph of the security market line:
17)
Portfolio “B”
17)
A)
is overpriced.
B)
falls above the SML.
C)
is less risky than the market portfolio.
D)
has a positive alpha.
18)
Portfolio “D”
18)
A)
offers an expected return equal to the risk–free rate.
B)
is overpriced.
C)
has a negative alpha.
D)
falls below the SML.
19)
Which of the following statements is false?
19)
A)
A trading strategy that each year short sells portfolio S (small stocks) and uses this position to
buy portfolio B (big stocks) has produced positive risk adjusted returns historically. This
self–financing portfolio is widely known as the small minus big (SMB) portfolio.
B)
The self–financing portfolio made from high minus low book–to–market stocks is called the
high–minus–low (HML) portfolio.
C)
Because expected returns are not easy to estimate, each portfolio that is added to a multifactor
model increases the difficulty of implementing the model.
D)
The FFC factor specification was identified a little more than ten years ago. Although it is
widely used in academic literature to measure risk, much debate persists about whether it
really is a significant improvement over the CAPM.
Use the information for the question(s) below.
Consider two firms, Chihuahua Corporation and Bernard Industries that are each expected to pay the same $1.5 million
dollar dividend every year in perpetuity. Chihuahua Corporation is riskier and has a cost of capital of 15%. Bernard
Industries is not as shaky as Chihuahua, so Bernard has a cost of capital of only 10%. Assume that the market portfolio is not
efficient. Both stocks have the same beta and the CAPM would assign them both an expected return of 12% to both.
20)
The market value for Bernard is closest to:
20)
A)
$15.0 million
B)
$12.5 million
C)
$10 million
D)
$12.0 million
21)
Which of the following statements is false?
21)
A)
For most stocks the standard errors of the alpha estimates are large, so it is impossible to
conclude that the alphas are statistically different from zero.
B)
Small stocks (those with lower market capitalization) have lower average returns.
C)
It is not difficult to find individual stocks that, in the past have not plotted on the SML.
D)
If the market portfolio is efficient, then all securities and portfolios must plot on the SML, not
just individual stocks.
Use the equation for the question(s) below.
Consider the following regression model:
Rs–rf=s+F1
s(RF1–rf) +F2
s(RF2–rf) +
22)
The term F1
sis a(n)
22)
A)
measure of the expected percent change in the excess return of a security for a 1% change in
the excess return of the second factor portfolio.
B)
error term that has an expectation of zero and is uncorrelated with either factor.
C)
measure of the expected percent change in the excess return of a security for a 1% change in
the excess return of the first factor portfolio.
D)
constant term.
23)
Which of the following statements is false?
23)
A)
The factor betas measure the sensitivity of the stock to a particular factor.
B)
The risk premium of any marketable security can be written as the sum of the risk premium
of each factor multiplied by the sensitivity of the stock with that factor.
C)
When we use more than one portfolio to capture risk, the model is known as a single factor
model.
D)
If we use more than one portfolio as factors, then together these factors will capture
systematic risk, but each factor captures different components of the systematic risk.
Use the figure for the question(s) below.
Consider the following graph of the security market line:
24)
Portfolio “A”
24)
A)
has a relatively lower expected return than predicted.
B)
is overpriced.
C)
has a positive alpha.
D)
falls below the SML.
Use the table for the question(s) below.
Consider the following information regarding the Fama French Carhart four factor model:
Factor
Portfolio
Average
Monthly
Return (%)
IBM
Factor
Betas
GE Factor
Betas
Wal–Mart
Factor
Betas
Rm–rf0.64 0.712 0.937 0.782
SMB 0.17 –0.103 –0.214 0.224
HML 0.53 0.124 0.154 0.123
PR1 YR 0.76 0.276 –0.147 0.247
25)
Using the FFC four factor model and the historical average monthly returns, the expected monthly
return for IBM is closest to:
25)
A)
0.71%
B)
0.53%
C)
0.79%
D)
1.01%
Use the figure for the question(s) below.
Consider the following graph of the security market line:
26)
The market portfolio
26)
A)
is underpriced.
B)
is overpriced.
C)
has a positive alpha.
D)
falls on the SML.
27)
Portfolio “C”
27)
A)
has a negative alpha.
B)
is less risky than the market portfolio.
C)
has a relatively lower expected return than predicted.
D)
is underpriced.