Exam 6: Risk and Return

Assume that you are the portfolio manager of the SF Fund, a $3 million hedge fund that contains the following stocks.The required rate of return on the market is 11.00% and the risk-free rate is 5.00%.What rate of return should investors expect (and require) on this fund?

an investor buys enough stocks, he or she can, through diversification, eliminate all of the market risk inherent in owning stocks, but as a general rule it will not be possible to eliminate all diversifiable risk.

Which of the following statements is CORRECT?

Stocks A and B each have an expected return of 12%, a beta of 1.2, and a standard deviation of 25%.The returns on the two stocks have a correlation of 0.6.Portfolio P has 50% in Stock A and 50% in Stock B.Which of the following statements is CORRECT?

Assume that you manage a $10.00 million mutual fund that has a beta of 1.05 and a 9.50% required return.The risk-free rate is 4.20%.You now receive another $5.00 million, which you invest in stocks with an average beta of 0.65.What is the required rate of return on the new portfolio? (Hint: You must first find the market risk premium, then find the new portfolio beta.)

Which of the following statements best describes what you should expect if you randomly select stocks and add them to your portfolio?

would generally find that the beta of a single security is more stable over time than the beta of a diversified portfolio.

portfolio's risk is measured by the weighted average of the standard deviations of the securities in the portfolio.It is this aspect of portfolios that allows investors to combine stocks and thus reduce the riskiness of their portfolios.

Scheuer Enterprises has a beta of 1.10, the real risk-free rate is 2.00%, investors expect a 3.00% future inflation rate, and the market risk premium is 4.70%.What is Scheuer's required rate of return?

Calculate the required rate of return for Climax Inc., assuming that (1) investors expect a 4.0% rate of inflation in the future, (2) the real risk-free rate is 3.0%, (3) the market risk premium is 5.0%, (4) the firm has a beta of 1.00, and (5) its realized rate of return has averaged 15.0% over the last 5 years.

Assume that the risk-free rate is 5%.Which of the following statements is CORRECT?

Under the CAPM, the required rate of return on a firm's common stock is determined only by the firm's market risk.If its market risk is known, and if that risk is expected to remain constant, then analysts have all the information they need to calculate the firm's required rate of return.

Stock A has a beta of 0.8 and Stock B has a beta of 1.2.50% of Portfolio P is invested in Stock A and 50% is invested in Stock B.If the market risk premium (rM − rRF) were to increase but the risk-free rate (rRF) remained constant, which of the following would occur?

highly risk-averse investor is considering adding one additional stock to a 3-stock portfolio, to form a 4-stock portfolio.The three stocks currently held all have b = 1.0, and they are perfectly positively correlated with the market.Potential new Stocks A and B both have expected returns of 15%, are in equilibrium, and are equally correlated with the market, with r = 0.75.However, Stock A's standard deviation of returns is 12% versus 8% for Stock B.Which stock should this investor add to his or her portfolio, or does the choice not matter?

Food's stock has a beta of 1.4, while Elba Eateries' stock has a beta of 0.7.Assume that the risk-free rate, rRF, is 5.5% and the market risk premium, (rM − rRF), equals 4%.Which of the following statements is CORRECT?

Dukes has $100,000 invested in a 2-stock portfolio.$35,000 is invested in Stock X and the remainder is invested in Stock Y.X's beta is 1.50 and Y's beta is 0.70.What is the portfolio's beta?

has a $50,000 stock portfolio with a beta of 1.2, an expected return of 10.8%, and a standard deviation of 25%.Becky also has a $50,000 portfolio, but it has a beta of 0.8, an expected return of 9.2%, and a standard deviation that is also 25%.The correlation coefficient, r, between Bob's and Becky's portfolios is zero.If Bob and Becky marry and combine their portfolios, which of the following best describes their combined $100,000 portfolio?

Which of the following is NOT a potential problem when estimating and using betas, i.e., which statement is FALSE?

Stock A's beta is 1.5 and Stock B's beta is 0.5.Which of the following statements must be true about these securities? (Assume market equilibrium.)

Assume that to cool off the economy and decrease expectations for inflation, the Federal Reserve tightened the money supply, causing an increase in the risk-free rate, rRF.Investors also became concerned that the Fed's actions would lead to a recession, and that led to an increase in the market risk premium, Under these conditions, with other things held constant, which of the following statements is most correct?