Fundamentals of Investments, 8e (Jordan)
Chapter 12 Return, Risk, and the Security Market Line
1) Which one of the following is the type of risk that affects a large number of assets?
A) unique
B) systematic
C) asset-specific
D) unsystematic
E) firm-specific
2) Which one of the following is the type of risk that only affects either a single firm or just a
small number of firms?
A) unexpected
B) market
C) systematic
D) unsystematic
E) expected
3) According to the systematic risk principle, the reward for bearing risk is based on which one
of the following types of risk?
A) unsystematic
B) firm specific
C) expected
D) systematic
E) diversifiable
4) Which one of the following measures systematic risk?
A) beta
B) alpha
C) variance
D) standard deviation
E) correlation coefficient
5) The security market line depicts the graphical relationship between which two of the
following?
I. expected return
II. surprise return
III. systematic risk
IV. unsystematic risk
A) I and III
B) I and IV
C) II and III
D) II and IV
E) none of these
6) Which one of the following is expressed as “E(RM) – Rf“?
A) market risk premium
B) individual security risk premium
C) real rate of return
D) total expected rate of return
E) market rate of return
7) Which one of the following is the theory which states that the value of a security is dependent
upon the pure time value of money, the reward for bearing systematic risk, and the amount of
systematic risk?
A) reward-to-risk theory
B) capital asset pricing model
C) risk premium proposal
D) market slope hypothesis
E) security market line proposition
8) Which one of the following terms is the measure of the tendency of two things to move or
vary together?
A) variance
B) squared deviation
C) standard deviation
D) alpha
E) covariance
9) Retail Specialties just announced that its Chief Operating Officer is retiring at the end of this
month. This announcement will cause the firm’s stock price to:
A) increase.
B) either increase or remain constant.
C) remain constant.
D) decrease.
E) either increase, decrease, or remain constant.
10) Which one of the following is the best example of a risk associated with stock ownership?
A) The stock paid a regular quarterly dividend.
B) The firm’s net income decreased by 4 percent for the quarter, as had been expected.
C) One of the firm’s patent applications was unexpectedly rejected.
D) The firm’s cost of debt increased as the result of an expected tax cut.
E) The firm’s production costs increased in line with previous years.
11) Which one of the following announcements is most apt to cause the price of a firm’s stock to
increase?
A) The firm met its quarterly earnings forecast.
B) An unpopular CEO unexpectedly announced he is resigning effective immediately.
C) A firm officially confirmed the rumors that it is merging with a competitor.
D) The firm just lowered its projected earnings per share for next year.
E) Analysts are expected to lower the firm’s credit rating on its debt.
12) Which one of the following terms is another name for systematic risk?
A) unique risk
B) firm risk
C) market risk
D) asset-specific risk
E) diversifiable risk
13) Which one of the following is the best example of systematic risk?
A) there is a shortage of nurses
B) a fire destroys a warehouse
C) gas prices rise sharply
D) the cost of sugar increases
E) two firms merge their operations
14) Which one of the following statements applies to unsystematic risk?
A) It can be eliminated through portfolio diversification.
B) It is also called market risk.
C) It is a type of risk that applies to most, if not all, securities.
D) Investors receive a risk premium as compensation for accepting this risk.
E) This risk is related to expected returns.
15) Which one of the following is the best example of unsystematic risk?
A) decrease in company sales
B) increase in market interest rates
C) change in corporate tax rates
D) increase in inflation
E) This risk is related to expected portfolio returns
16) Which one of the following qualifies as diversifiable risk?
A) market risk
B) systematic risk associated with an individual security
C) market crash
D) the systematic portion of an expected return
E) the unsystematic portion of an unexpected return
17) Which one of the following betas represents the greatest level of systematic risk?
A) 0.05
B) 0.68
C) 1.00
D) 1.19
E) 1.27
18) A stock with which one of the following betas has an expected return that most resembles the
overall market expected rate of return?
A) 0.33
B) 0.74
C) 0.99
D) 1.06
E) 1.22
19) What is the beta of a risk-free security?
A) 0.00
B) 0.50
C) 1.00
D) 1.50
E) 2.00
20) Which one of the following stocks has the highest expected risk premium?
Stock
Standard
deviation
Beta
A
14
%
1.36
B
21
0.98
C
34
1.02
D
8
1.18
E
17
1.27
A) A
B) B
C) C
D) D
E) E
21) Of the following, Stock ________ has the greatest level of total risk and Stock ________ has
the highest risk premium.
Stock
Beta
Standard
deviation
A
1.09
11
%
B
0.96
13
%
C
1.24
18
%
D
1.13
26
%
E
0.87
9
%
A) A; B
B) B; E
C) C; D
D) D; C
E) C; E
22) A portfolio beta is computed as which one of the following?
A) weighted average
B) arithmetic average
C) geometric average
D) correlated value
E) covariance value
23) You own a portfolio which is invested equally in two stocks and a risk-free security. The
stock betas are 0.89 for Stock A and 1.26 for Stock B. Which one of the following will increase
the portfolio beta, all else constant?
A) increasing the amount invested in the risk-free security
B) decreasing the weight of Stock B and increasing the weight of Stock A
C) replacing Stock A with a security that has a beta of .77
D) increasing the weight of Stock A and decreasing the weight of the risk-free security
E) replacing Stock B with Stock C, which has a beta equal to that of the market
24) A portfolio of securities has a beta of 1.14. Given this, you know that:
A) adding another security to the portfolio must lower the portfolio beta.
B) the portfolio has more risk than a risk-free asset but less risk than the market.
C) each of the securities in the portfolio has more risk than an average security.
D) the portfolio has 14 percent more risk than a risk-free security.
E) the expected return on the portfolio is greater than the expected market return.
25) You own three stocks which have betas of 1.16, 1.34, and 1.02. You would like to add a
fourth security such that your portfolio beta will match that of the market. Given this situation,
the new security:
A) must have a beta of 1.0.
B) must have a beta of zero.
C) could be a U.S. Treasury bill.
D) could have any beta greater than 1.0.
E) must have a portfolio weight of 50 percent or more.
26) The amount of risk premium allocated to Security A is dependent upon which one of the
following?
A) unsystematic risk associated only with Security A
B) total risk associated with Security A’s classification
C) total surprise associated with Security A
D) the difference between the expected return and the actual return on Security A
E) systematic risk associated with Security A
27) What is the beta of an average asset?
A) 0
B) > 0 but < 1
C) < 1
D) 1
E) > 1
28) All else held constant, which of the following will increase the expected return on a security
based on CAPM? Assume the market return exceeds the risk-free rate and both values are
positive. Also assume the beta exceeds 1.0.
I. decrease in the security beta
II. increase in the market risk premium
III. decrease in the risk-free rate
IV. increase in the market rate of return
A) I and III only
B) II and IV only
C) I, II, and IV only
D) II, III, and IV only
E) I, II, III, and IV
29) The slope of the security market line is equal to the:
A) market risk premium.
B) risk-free rate of return.
C) market rate of return.
D) market rate of return multiplied by any security’s beta, given an inefficient market.
E) market rate of return multiplied by the risk-free rate.
30) Where will a security plot in relation to the security market line (SML) if it has a beta of 1.1
and is overvalued?
A) to the right of the overall market and above the SML
B) to the right of the overall market and below the SML
C) to the left of the overall market and above the SML
D) to the left of the overall market and below the SML
E) on the SML
31) Where will a security plot in relation to the security market line (SML) if it is considered to
be a good purchase because it is underpriced?
A) above the SML
B) either on or above the SML
C) on the SML
D) on or below the SML
E) below the SML
32) According to the capital asset pricing model, which of the following will increase the
expected rate of return on a security that has a beta that is less than that of the market? Assume
the market rate of return is greater than the risk-free rate and both rates are positive.
I. increase in the risk-free rate
II. decrease in the risk-free rate
III. increase in the market risk premium
IV. decrease in the market rate of return
A) I and III only
B) II and III only
C) I and IV only
D) II and IV only
E) II, III, and IV only
33) Which one of the following has the highest expected risk premium?
A) stock portfolio with a beta of 1.06
B) U.S. Treasury bill
C) individual stock with a beta of 1.46
D) a stock mutual fund with a beta of .89
E) individual stock with a beta of .94
34) Which one of the following must be equal for two individual securities with differing betas if
those securities are correctly priced according to the capital asset pricing model?
A) standard deviation
B) rate of return
C) beta
D) risk premium
E) reward-to-risk ratio
35) Stocks D, E, and F have actual reward-to-risk ratios of 7.1, 6.8, and 7.4, respectively. Given
this, you know for certain that:
A) stock E is preferable to stock F.
B) stock D has a higher beta than stock F.
C) the market risk premium is greater than 6.8 and less than 7.4.
D) stock F is riskier than stock D.
E) at least two of the securities are mispriced.
36) Which one of the following will increase the slope of the security market line? Assume all
else constant.
A) increasing the beta of an efficiently-priced portfolio
B) increasing the risk-free rate
C) increasing the market risk premium
D) decreasing the market rate of return
E) replacing a low-beta stock with a high-beta stock within a portfolio
37) Which two of the following determine how sensitive a security is relative to movements in
the overall market?
I. the standard deviation of the security
II. correlation between the security’s return and the market return
III. the volatility of the security relative to the market
IV. the amount of unsystematic risk inherent in the security
A) I and III only
B) I and IV only
C) II and III only
D) II and IV only
E) III and IV only
38) Which of the following are needed to compute the beta of an individual security?
I. average return on the market for the period
II. standard deviation of the security and the market
III. returns on the security and the market for multiple time periods
IV. correlation of the security to the market
A) I and III only
B) I and IV only
C) II and III only
D) II and IV only
E) I, II, and III only
39) A security has a zero covariance with the market. This means that:
A) the return on the security is always equal to that of the market.
B) the return on the security moves in the same direction as the market return.
C) the security is a risk-free security.
D) there is no identifiable relationship between the return on the security and that of the market.
E) the return on the security must vary more than that of the market.
40) Which of the following will affect the beta value of an individual security?
I. interval of time frequency used for the data sample
II. length of the time period used for the data sample
III. particular time period selected for the sampling
IV. choice of index used as the measure of the market
A) I and II only
B) I and III only
C) II and IV only
D) II, III, and IV only
E) I, II, III, and IV