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Exam 13: Return, Risk, and the Security Market Line

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Question 201

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An investor has purchased a gold stock. It is expected that during a good economy, the stock will provide a 4% return, while in a poor economy the stock will provide an 18% return. The probability of a good economy is expected to be 40%. Given this information, calculate the standard deviation for this stock.

A) 14.20%
B) 13.30%
C) 6.86%
D) 11.50%
E) 10.60%

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

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Question 202

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Jettie owns twenty-five different stocks. She would like to somehow create a graph that will help her decide which stocks she might consider selling as she currently needs some funds. What suggestion do you have to offer her?

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Jettie could plot each of her stocks aga...

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Question 203

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Systematic risks are defined as:

Using the Capital Asset Pricing Model (CAPM), an increase in the market rate of return will increase the expected rate of return on an individual security. Assume that the security's beta, the risk-free rate of return, and the market rate of return are all positive.

Which one of the following would tend to indicate that a portfolio is being effectively diversified?

A market risk factor is a risk that influences only a small number of assets.

XYZ Investment Corporation is considering a portfolio with 70% weighting in a cyclical stock and 30% weighting in a countercyclical stock. It is expected that there will be three economic states; Good, Average and Bad, each with equal probabilities of occurrence. The cyclical stock is expected to have returns of 25%, 5% and 1% in Good, Average and Bad economies respectively. The countercyclical stock is expected to have returns of -8%, 2% and 14% in Good, Average and Bad economies respectively. Given this information, calculate expected return for the portfolio.

The expected return of the portfolio considers the amount of money currently invested in each individual security.

Non-diversifiable risk is relevant to a well-diversified investor.

Ed Lawrence has $100,000 invested. Of that, $30,000 is invested in Tim Hortons stock, $25,000 is invested in T-bills, and the remainder is invested in corporate bonds. Which of the following is NOT correct regarding his portfolio weights? (All values are current market values.)

A unique risk is a risk that affects a relatively large number of the assets in the market.

What is the standard deviation of the returns on a stock given the following information?

Which of the following does NOT describe the risk that exists in a well-diversified portfolio?

Write out the equation for the CAPM. Using the symbols in the model, identify the expected return on each of three assets: Asset A has a beta of one, Asset B has a beta of zero, and Asset C has a beta of negative one. In each case, interpret your result.

The stock of Jen's Boutique has a beta of 1.26. The risk-free rate of return is 4.15% and the market risk premium is 8.78%. What is the expected rate of return on Jen's stock?

What relationship are the volatilities of stock A and B exhibiting?

Provide a definition for principle of diversification.

What is the portfolio variance if 30% is invested in stock S and 70% is invested in stock T?

Margaret has a portfolio consisting of a risk-free asset and a stock with a beta of 1.5. If she wishes to lower the overall beta of her portfolio Margaret could _____ the portfolio weight of the risk-free asset and _____ the portfolio weight of the stock.

For a stock with beta equal to 1.5 signifies that the market risk premium is 10%, and the expected return on the stock is 15%.