Question 1

Which of the following portfolios would have no diversification benefits?

Accepted Answer

A)  A portfolio consisting of two perfectly positively correlated stocks 
B)  A portfolio consisting of two perfectly negatively correlated stocks 
C)  A portfolio consisting of two completely uncorrelated stocks 
D)  A portfolio consisting of two stocks with the same standard deviation of returns 
E)  A portfolio consisting of two stocks with the same beta coefficient 
A)  A portfolio consisting of two perfectly positively correlated stocks 
B)  A portfolio consisting of two perfectly negatively correlated stocks 
C)  A portfolio consisting of two completely uncorrelated stocks 
D)  A portfolio consisting of two stocks with the same standard deviation of returns 
E)  A portfolio consisting of two stocks with the same beta coefficient

Question 2

Which of the following risks is irrelevant for the purpose of determining the risk premium of a security?

Accepted Answer

A)  Political risk 
B)  Exchange rate risk 
C)  Maturity risk 
D)  Business risk 
E)  Inflation risk 
A)  Political risk 
B)  Exchange rate risk 
C)  Maturity risk 
D)  Business risk 
E)  Inflation risk

Question 3

Which of the following statements about relevant and irrelevant risks is true?

Accepted Answer

A)  Relevant risk includes inflation risk, but excludes political risk. 
B)  Relevant risk includes interest rate risk, but excludes default risk. 
C)  Relevant risk includes liquidity risk, but excludes exchange rate risk. 
D)  Relevant risk includes exchange rate risk, but excludes inflation risk. 
E)  Relevant risk includes default risk, but excludes political risk. 
A)  Relevant risk includes inflation risk, but excludes political risk. 
B)  Relevant risk includes interest rate risk, but excludes default risk. 
C)  Relevant risk includes liquidity risk, but excludes exchange rate risk. 
D)  Relevant risk includes exchange rate risk, but excludes inflation risk. 
E)  Relevant risk includes default risk, but excludes political risk.

Question 4

A stock's standard deviation determines how the stock affects the riskiness of a diversified portfolio, therefore it is a better measure of a stock's relevant risk than is the beta coefficient, which measures total, or stand-alone, risk.

Accepted Answer

A) True 
 B)False

Question 5

Which of the following statements about the security market line (SML) and investor's risk aversion is correct?

Accepted Answer

A)  The steeper the slope of the line, the lesser the average investor's risk aversion, and thus the greater the return investors require as compensation for risk. 
B)  The steeper the slope of the line, the greater the average investor's risk aversion, and thus the greater the return investors require as compensation for risk. 
C)  The steeper the slope of the line, the lesser the average investor's risk aversion, and thus the lesser the return investors require as compensation for risk. 
D)  The steeper the slope of the line, the greater the average investor's risk aversion, and thus the lesser the return investors require as compensation for risk. 
E)  The less steep the slope of the line, the greater the average investor's risk aversion, and thus the lesser the return investors require as compensation for risk. 
A)  The steeper the slope of the line, the lesser the average investor's risk aversion, and thus the greater the return investors require as compensation for risk. 
B)  The steeper the slope of the line, the greater the average investor's risk aversion, and thus the greater the return investors require as compensation for risk. 
C)  The steeper the slope of the line, the lesser the average investor's risk aversion, and thus the lesser the return investors require as compensation for risk. 
D)  The steeper the slope of the line, the greater the average investor's risk aversion, and thus the lesser the return investors require as compensation for risk. 
E)  The less steep the slope of the line, the greater the average investor's risk aversion, and thus the lesser the return investors require as compensation for risk.

Question 6

Which of the following statements is correct about the risk-reward relationship of various types of risks?

Accepted Answer

A)  Firm-specific risk is rewarded with additional returns. 
B)  Market risk is not rewarded with additional returns. 
C)  Systematic risk is rewarded with additional returns. 
D)  Unsystematic risk is rewarded with additional returns. 
E)  Diversifiable risk is not rewarded with additional returns. 
A)  Firm-specific risk is rewarded with additional returns. 
B)  Market risk is not rewarded with additional returns. 
C)  Systematic risk is rewarded with additional returns. 
D)  Unsystematic risk is rewarded with additional returns. 
E)  Diversifiable risk is not rewarded with additional returns.

Question 7

The market for a stock is said to be in equilibrium when the _____.

Accepted Answer

A)  expected return on the stock is equal to its required return 
B)  expected return on the stock is equal to the risk-free rate 
C)  expected return on the stock is equal to the market risk premium 
D)  expected return on the stock is equal to the market return 
E)  expected return on the stock is equal to its historical return 
A)  expected return on the stock is equal to its required return 
B)  expected return on the stock is equal to the risk-free rate 
C)  expected return on the stock is equal to the market risk premium 
D)  expected return on the stock is equal to the market return 
E)  expected return on the stock is equal to its historical return

Question 8

Which of the following is a component of systematic risk?

Accepted Answer

A)  Business risk 
B)  Financial risk 
C)  Default risk 
D)  Liquidity risk 
E)  Stand-alone risk 
A)  Business risk 
B)  Financial risk 
C)  Default risk 
D)  Liquidity risk 
E)  Stand-alone risk

Question 9

The larger the standard deviation of returns of an investment, _____.

Accepted Answer

A)  greater is the chance that the investment will outperform the market 
B)  lesser is the chance that the realized return will be negative 
C)  greater is the chance that the realized return will be negative 
D)  lesser is the chance that the realized return will differ significantly from the expected return 
E)  greater is the chance that the realized return will differ significantly from the expected return 
A)  greater is the chance that the investment will outperform the market 
B)  lesser is the chance that the realized return will be negative 
C)  greater is the chance that the realized return will be negative 
D)  lesser is the chance that the realized return will differ significantly from the expected return 
E)  greater is the chance that the realized return will differ significantly from the expected return

Question 10

Market portfolio contains only unsystematic risk, therefore market risk premium represents the return that investors require to be compensated for, taking an average amount of relevant, or unsystematic, risk.

Accepted Answer

A) True 
 B)False

Question 11

Which of the following statements about correlation is correct?

Accepted Answer

A)  If the returns from two stocks are perfectly positively correlated and the two stocks have equal variance, an equally weighted portfolio of the two stocks will have a variance, which is less than that of the individual stocks. 
B)  If a stock has a negative correlation with market, its systematic risk is more than the market risk. 
C)  Stocks with no correlation will have minimum diversification benefits. 
D)  The weaker the positive correlation two stocks exhibit, the more risk can be reduced when they are combined in a portfolio. 
E)  Risk is reduced when negatively related stocks are combined to form portfolios as long as the correlation coefficient is not equal to -1. 
A)  If the returns from two stocks are perfectly positively correlated and the two stocks have equal variance, an equally weighted portfolio of the two stocks will have a variance, which is less than that of the individual stocks. 
B)  If a stock has a negative correlation with market, its systematic risk is more than the market risk. 
C)  Stocks with no correlation will have minimum diversification benefits. 
D)  The weaker the positive correlation two stocks exhibit, the more risk can be reduced when they are combined in a portfolio. 
E)  Risk is reduced when negatively related stocks are combined to form portfolios as long as the correlation coefficient is not equal to -1.

Question 12

A firm can affect its beta risk by changing the composition of its assets and by modifying its use of debt financing, but external factors do not have any bearing on a firm's beta.

Accepted Answer

A) True 
 B)False

Question 13

According to the CAPM, _____.

Accepted Answer

A)  investors should expect to be rewarded for the total risk associated with an individual investment, total risk being measured by the standard deviation of returns 
B)  investors should expect to be rewarded for only the unsystematic risk associated with an individual investment, unsystematic risk being measured by the standard deviation of returns 
C)  investors should expect to be rewarded only for the systematic risk associated with an individual investment, systematic risk being measured by the standard deviation of returns 
D)  investors should expect to be rewarded for only the unsystematic risk associated with an individual investment, unsystematic risk being measured by the beta coefficient 
E)  investors should expect to be rewarded for only the systematic risk associated with an individual investment, systematic risk being measured by the beta coefficient 
A)  investors should expect to be rewarded for the total risk associated with an individual investment, total risk being measured by the standard deviation of returns 
B)  investors should expect to be rewarded for only the unsystematic risk associated with an individual investment, unsystematic risk being measured by the standard deviation of returns 
C)  investors should expect to be rewarded only for the systematic risk associated with an individual investment, systematic risk being measured by the standard deviation of returns 
D)  investors should expect to be rewarded for only the unsystematic risk associated with an individual investment, unsystematic risk being measured by the beta coefficient 
E)  investors should expect to be rewarded for only the systematic risk associated with an individual investment, systematic risk being measured by the beta coefficient

Question 14

The next expected dividend for Stock P is $2.5, and the current price of the stock is $32.5. Its earnings, dividends, and price can be expected to grow at a constant rate of 4 percent per year. The risk free rate is 3%, the market risk premium is 5.5%, and the stock's beta is 1.2. Based on the given information, which of the following statements is correct?

Accepted Answer

A)  An investor should buy this stock because its expected rate of return is 11.69%, and its required rate of return is 9.6% 
B)  An investor should not buy this stock because its expected rate of return is 9.6%, and its required rate of return is 11.69% 
C)  An investor should buy this stock because its expected rate of return is 12.54%, and its required rate of return is 8.28%, 
D)  An investor should not buy this stock because its expected rate of return is only 8.28%, and its required rate of return is 12.54% 
E)  An investor should be indifferent toward buying or selling the stock, because its required rate of return is equal to its expected rate of return. 
A)  An investor should buy this stock because its expected rate of return is 11.69%, and its required rate of return is 9.6% 
B)  An investor should not buy this stock because its expected rate of return is 9.6%, and its required rate of return is 11.69% 
C)  An investor should buy this stock because its expected rate of return is 12.54%, and its required rate of return is 8.28%, 
D)  An investor should not buy this stock because its expected rate of return is only 8.28%, and its required rate of return is 12.54% 
E)  An investor should be indifferent toward buying or selling the stock, because its required rate of return is equal to its expected rate of return.

Question 15

Which of the following statements about beta and risk is correct?

Accepted Answer

A)  A security's beta measures its diversifiable (systematic, or market) risk relative to that of other securities. 
B)  If the returns of two firms are negatively correlated, one of them must have a negative beta. 
C)  A stock's beta is less relevant as a measure of risk to an investor with a well-diversified portfolio than to an investor who holds only one stock. 
D)  Combining stocks with perfectly positively correlated stock returns into a portfolio is less risky than holding an individual stock since the portfolio will benefit from diversification. 
E)  If two stocks have the same standard deviation and the correlation coefficient between the returns of two stocks equals zero, an equally weighted portfolio of the two stocks will have a standard deviation equal to that of the individual stocks. 
A)  A security's beta measures its diversifiable (systematic, or market) risk relative to that of other securities. 
B)  If the returns of two firms are negatively correlated, one of them must have a negative beta. 
C)  A stock's beta is less relevant as a measure of risk to an investor with a well-diversified portfolio than to an investor who holds only one stock. 
D)  Combining stocks with perfectly positively correlated stock returns into a portfolio is less risky than holding an individual stock since the portfolio will benefit from diversification. 
E)  If two stocks have the same standard deviation and the correlation coefficient between the returns of two stocks equals zero, an equally weighted portfolio of the two stocks will have a standard deviation equal to that of the individual stocks.

Question 16

Market risk refers to the tendency of a stock to move with the general stock market. A stock with above-average market risk will tend to be more volatile than an average stock, and it will have a beta which is greater than 1.0.

Accepted Answer

A) True 
 B)False

Question 17

Which of the following risks is relevant for the purpose of determining the risk premium of a security?

Accepted Answer

A)  Financial risk 
B)  Inflation risk 
C)  Default risk 
D)  Stand-alone risk 
E)  Business risk 
A)  Financial risk 
B)  Inflation risk 
C)  Default risk 
D)  Stand-alone risk 
E)  Business risk

Question 18

Which of the following is a measure of the extent to which the returns on a given stock move with the stock market?

Accepted Answer

A)  Beta coefficient 
B)  Standard deviation 
C)  Coefficient of variation 
D)  Correlation coefficient 
E)  Probability distribution of expected returns 
A)  Beta coefficient 
B)  Standard deviation 
C)  Coefficient of variation 
D)  Correlation coefficient 
E)  Probability distribution of expected returns

Question 19

Which of the following statements about the various kinds of risks and their associated market reward is true?

Accepted Answer

A)  Liquidity risk is a market risk, hence not rewarded by the market. 
B)  Default risk is a firm-specific risk, hence rewarded by the market. 
C)  Exchange rate risk is a diversifiable risk, hence not rewarded by the market. 
D)  Inflation risk is an unsystematic risk, hence not rewarded by the market. 
E)  Interest rate risk is a systematic risk, hence rewarded by the market. 
A)  Liquidity risk is a market risk, hence not rewarded by the market. 
B)  Default risk is a firm-specific risk, hence rewarded by the market. 
C)  Exchange rate risk is a diversifiable risk, hence not rewarded by the market. 
D)  Inflation risk is an unsystematic risk, hence not rewarded by the market. 
E)  Interest rate risk is a systematic risk, hence rewarded by the market.

Question 20

Diversification refers to the _____.

Accepted Answer

A)  reduction of the stand-alone risk of an individual investment, measured by its beta coefficient, by combining it with other investments in a portfolio 
B)  reduction of the stand-alone risk of an individual investment, measured by the standard deviation of its returns, by combining it with other investments in a portfolio 
C)  reduction of the systematic risk of an individual investment, measured by its beta coefficient, by combining it with other investments in a portfolio 
D)  reduction of the systematic risk of an individual investment, measured by the standard deviation of its returns, by combining it with other investments in a portfolio 
E)  reduction of the unsystematic risk of an individual investment, measured by its coefficient of variation, by combining it with other investments in a portfolio 
A)  reduction of the stand-alone risk of an individual investment, measured by its beta coefficient, by combining it with other investments in a portfolio 
B)  reduction of the stand-alone risk of an individual investment, measured by the standard deviation of its returns, by combining it with other investments in a portfolio 
C)  reduction of the systematic risk of an individual investment, measured by its beta coefficient, by combining it with other investments in a portfolio 
D)  reduction of the systematic risk of an individual investment, measured by the standard deviation of its returns, by combining it with other investments in a portfolio 
E)  reduction of the unsystematic risk of an individual investment, measured by its coefficient of variation, by combining it with other investments in a portfolio

Which of the following portfolios would have no diversification benefits?

Which of the following risks is irrelevant for the purpose of determining the risk premium of a security?

Which of the following statements about relevant and irrelevant risks is true?

A stock's standard deviation determines how the stock affects the riskiness of a diversified portfolio, therefore it is a better measure of a stock's relevant risk than is the beta coefficient, which measures total, or stand-alone, risk.

Which of the following statements about the security market line (SML) and investor's risk aversion is correct?

Which of the following statements is correct about the risk-reward relationship of various types of risks?

The market for a stock is said to be in equilibrium when the _____.

Which of the following is a component of systematic risk?

The larger the standard deviation of returns of an investment, _____.

Market portfolio contains only unsystematic risk, therefore market risk premium represents the return that investors require to be compensated for, taking an average amount of relevant, or unsystematic, risk.

Which of the following statements about correlation is correct?

A firm can affect its beta risk by changing the composition of its assets and by modifying its use of debt financing, but external factors do not have any bearing on a firm's beta.

According to the CAPM, _____.

Which of the following statements about beta and risk is correct?

Market risk refers to the tendency of a stock to move with the general stock market. A stock with above-average market risk will tend to be more volatile than an average stock, and it will have a beta which is greater than 1.0.

Which of the following risks is relevant for the purpose of determining the risk premium of a security?

Which of the following is a measure of the extent to which the returns on a given stock move with the stock market?

Which of the following statements about the various kinds of risks and their associated market reward is true?

Diversification refers to the _____.

An Overview of Managerial Finance

Analysis of Financial Statements

The Financial Environment: Markets, Institutions, and Investment Banking

Time Value of Money

The Cost of Money Interest Rates

Bonds Debtcharacteristics and Valuation

Stocks Equity Characteristics and Valuation

Capital Budgeting Techniques

Project Cash Flows and Risk

The Cost of Capital

Capital Structure

Distribution of Retained Earnings: Dividends and Stock Repurchases

Managing Short-Term Financing Liabilities

Managing Short-Term Assets

Financial Planning and Control

Filters

Exam 8: Risk and Rates of Return

Which of the following portfolios would have no diversification benefits?

Which of the following risks is irrelevant for the purpose of determining the risk premium of a security?

Which of the following statements about relevant and irrelevant risks is true?

A stock's standard deviation determines how the stock affects the riskiness of a diversified portfolio, therefore it is a better measure of a stock's relevant risk than is the beta coefficient, which measures total, or stand-alone, risk.

Which of the following statements about the security market line (SML) and investor's risk aversion is correct?

Which of the following statements is correct about the risk-reward relationship of various types of risks?

The market for a stock is said to be in equilibrium when the _____.

Which of the following is a component of systematic risk?

The larger the standard deviation of returns of an investment, _____.

Market portfolio contains only unsystematic risk, therefore market risk premium represents the return that investors require to be compensated for, taking an average amount of relevant, or unsystematic, risk.

Which of the following statements about correlation is correct?

A firm can affect its beta risk by changing the composition of its assets and by modifying its use of debt financing, but external factors do not have any bearing on a firm's beta.

According to the CAPM, _____.

Which of the following statements about beta and risk is correct?

Market risk refers to the tendency of a stock to move with the general stock market. A stock with above-average market risk will tend to be more volatile than an average stock, and it will have a beta which is greater than 1.0.

Which of the following risks is relevant for the purpose of determining the risk premium of a security?

Which of the following is a measure of the extent to which the returns on a given stock move with the stock market?

Which of the following statements about the various kinds of risks and their associated market reward is true?

Diversification refers to the _____.

An Overview of Managerial Finance

Analysis of Financial Statements

The Financial Environment: Markets, Institutions, and Investment Banking

Time Value of Money

The Cost of Money Interest Rates

Bonds Debtcharacteristics and Valuation

Stocks Equity Characteristics and Valuation

Capital Budgeting Techniques

Project Cash Flows and Risk

The Cost of Capital

Capital Structure

Distribution of Retained Earnings: Dividends and Stock Repurchases

Managing Short-Term Financing Liabilities

Managing Short-Term Assets

Financial Planning and Control

Filters