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Exam 8: Analysis of Risk and Return

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Question 21

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Texas Computers (TC) stock has a beta of 1.5 and American Water (AW) stock has a beta of 0.5. Which of the following statements will be true about these securities?

A) The addition of TC would reduce portfolio risk more than the addition of AW.
B) The addition of AW would reduce total portfolio risk more than the addition of TC.
C) The required return for TC is greater than the required return for AW.
D) The required return for AW is greater than the required return of TC.

E) A) and B)
F) All of the above

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Question 22

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In order to completely eliminate the risk (i.e., a portfolio standard deviation of zero) in a two-asset portfolio, the correlation coefficient between the securities must be ____.

A) less than +1.0
B) equal to 0.0
C) less than 0.0
D) equal to -1.0

E) All of the above
F) C) and D)

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Question 23

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According to the ____, long-term interest rates are a function of expected short-term interest rates.

The expected rate of return for the coming year on FTC common stock is normally distributed with a mean of 14% and a standard deviation of 7%. Determine the probability of earning a negative rate of return (i.e. less than 0%) on FTC common stock.

____ refers to the ability of an investor to buy and sell a company's securities quickly and without a significant loss of value.

An investor, who believes the economy is slowing down, wishes to reduce the risk of her portfolio. She currently owns 12 securities, each with a market value of $3,000. The current beta of the portfolio is 1.21 and the beta of the riskiest security is 1.62. What will the portfolio beta be if the riskiest security is replaced with a security of equal market value but a beta of 0.80?

An increase in uncertainty regarding the future economic outlook has the effect of ____.

Investors generally are considered to be risk ____ because they expect to be compensated for assuming risk.

The default risk premium reflects the fact that

Why is risk an increasing function of time?

Users of the CAPM should be aware of some of the problems in its practical application. These problems include which of the following?

Security A offers an expected return of 14% with a standard deviation of 8%. Security B offers an expected return of 11% with a standard deviation of 6%. If you wish to construct a portfolio with a 12.8% expected return, what percentage of the portfolio will consist of security A?

The following yields on 20 year bonds prevailed in January for the three securities shown: The difference in yields is due primarily to

Sally's broker told her that the expected return from her portfolio was 14.2%. If 40% of her securities have an expected return of 10.3 percent and 20% have an expected return of 12.8 percent, what is the expected return of the remaining portion of her portfolio?

The ____ the standard deviation, the ____ the investment.

The security market line can be thought of as expressing relationships between required rates of return and

The ____ is an absolute measure of risk, and the ____ is a relative measure of risk.

An increase in the expected future inflation rate has the effect of ____.

Recalling the meaning and calculation of beta, a security that is completely uncorrelated (p_i,m = 0) with the market portfolio would have a beta of

Lotte Group is planing on diversifying into the transportation industry. As a result, Lotte's beta would rise to 1.3 from 1.1 and the expected long-term growth rate in the firm's earnings would increase from 11% to 14%. Currently the risk-free rate is 5.0% and the market risk premium is 8.6%. If Lotte's current dividend is $1.30, should Lotte diversify into the transportation industry?