If the investor desires less risk than the market, he or she: A) buys stocks with alphas of zero. B) buys stocks with betas less than 1.0. C) makes sure the risk-free rate is higher than the expected market return. D) buys stocks only when the slope of the security market line is on a 45-degree angle.
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If the investor desires less risk than the market, he or she: A) buys stocks with alphas of zero. B) buys stocks with betas less than 1.0. C) makes sure the risk-free rate is higher than the expected market return. D) buys stocks only when the slope of the security market line is on a 45-degree angle.
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- Security A has an expected rate of return of 6%, a standard deviation of returns of 30%, a correlation coefficient with the market of −0.25, and a beta coefficient of −0.5. Security B has an expected return of 11%, a standard deviation of returns of 10%, a correlation with the market of 0.75, and a beta coefficient of 0.5. Which security is more risky? Why?Security A has an expected return of 7%, a standard deviation of returns of 35%, a correlation coefficient with the market of −0.3, and a beta coefficient of −1.5. Security B has an expected return of 12%, a standard deviation of returns of 10%, a correlation with the market of 0.7, and a beta coefficient of 1.0. Which security is riskier? Why?You have been hired at the investment firm of Bowers Noon. One of its clients doesnt understand the value of diversification or why stocks with the biggest standard deviations dont always have the highest expected returns. Your assignment is to address the clients concerns by showing the client how to answer the following questions: d. Construct a plausible graph that shows risk (as measured by portfolio standard deviation) on the x-axis and expected rate of return on the y-axis. Now add an illustrative feasible (or attainable) set of portfolios and show what portion of the feasible set is efficient. What makes a particular portfolio efficient? Dont worry about specific values when constructing the graphmerely illustrate how things look with reasonable data.
- Market equity beta measures the covariability of a firms returns with all shares traded on the market (in excess of the risk-free interest rate). We refer to the degree of covariability as systematic risk. The market prices securities so that the expected returns should compensate the investor for the systematic risk of a particular stock. Stocks carrying a market equity beta of 1.20 should generate a higher return than stocks carrying a market equity beta of 0.90. Nonsystematic risk is any source of risk that does not affect the covariability of a firms returns with the market. Some writers refer to nonsystematic risk as firm-specific risk. Why is the characterization of nonsystematic risk as firm-specific risk a misnomer?You have been hired at the investment firm of Bowers & Noon. One of its clients doesn’t understand the value of diversification or why stocks with the biggest standard deviations don’t always have the highest expected returns. Your assignment is to address the client’s concerns by showing the client how to answer the following questions: Suppose a risk-free asset has an expected return of 5%. By definition, its standard deviation is zero, and its correlation with any other asset is also zero. Using only Asset A and the risk-free asset, plot the attainable portfolios.Given the information in the table below, which of the following statements is correct, assuming that either security will be held in a portfolio with other investments? Stock Expected Return Required Return Beta Standard Deviation A 10% 12% 0.9 25% B 8% 5% 0.3 35% Question 26 options: The investor should purchase both stocks because their beta is less than that of the market. The investor should purchase A since its risk, as measured by standard deviation, is the lowest. The investor should purchase A because it requires the highest rate of return. The investor should purchase B since its expected return exceeds its required return.
- Which of the following statements is CORRECT? a. The higher the correlation between the stocks in a portfolio, the lower the risk inherent in the portfolio. b. An investor can eliminate almost all risk if he or she holds a very large and well diversified portfolio of stocks. c. Once a portfolio has about 40 stocks, adding additional stocks will not reduce its risk by even a small amount. d. An investor can eliminate almost all diversifiable risk if he or she holds a very large, well-diversified portfolio of stocks. e. An investor can eliminate almost all market risk if he or she holds a very large and well diversified portfolio of stocks.Assume that the risk-free rate remains constant, but the market risk premium declines. Which of the following is most likely to occur? a. The required return on a stock with beta = 1.0 will not change. b. The required return on a stock with beta > 1.0 will increase. c. The return on "the market" will increase. d. The return on "the market" will remain constant. e. The required return on a stock with a positive beta < 1.0 will decline.The security market line (SML) is an equation that shows the relationship between risk as measured by beta and the required rates of return on individual securities. The SML equation is given below: If a stock's expected return plots on or above the SML, then the stock's return is sufficient to compensate the investor for risk. If a stock's expected return plots below the SML, the stock's return is insufficient to compensate the investor for risk.The SML line can change due to expected inflation and risk aversion. If inflation changes, then the SML plotted on a graph will shift up or down parallel to the old SML. If risk aversion changes, then the SML plotted on a graph will rotate up or down becoming more or less steep if investors become more or less risk averse. A firm can influence market risk (hence its beta coefficient) through changes in the composition of its assets and through changes in the amount of debt it uses. Quantitative Problem: You are given the following…
- Suppose you are an average risk-averse investor who can purchase only one of the following stocks. Which should you purchased? Explain your reasoning. Investment Expected Return, r Standard Deviation, (r Stock M 6.0% 4.0% Stock N 18.0 12.0 Stock O 12.0 7.0Stock A is fairly priced by the market. Given that the risk free rate is 3.5%, the beta of stock A is 1.2, the beta of stock B is 0.8, the expected return on A is 6.5% and on B is 5.5% which of the following is correct given that betas of stocks A and B are correct? a. Stock B is also fairly priced b. The expected return on stock B is too high c. The expected return on stock A is too high d. The price of stock B is too high e. The price of stock A is too high. 9) Which of the following would likely have the greatest amount of systematic risk? a. A portfolio of the ordinary shares of 100 randomly selected companies b. The market portfolio c. A portfolio half invested in the market portfolio and half invested in treasury bills d. A portfolio half invested in the market portfolio and half invested in stocks with betas greater than 1.5 e. A portfolio made up entirely of treasury billsAn analyst who believes in the Treynor Black Model has identified one active stock, stock A, which he/she wants to combine with the passive Market Index M to form their firm's optimal risky portfolio. A regression of the excess returns of stock A on the excess returns of the market index M, have discovered that stock A's alpha is 4%, its beta is 2.0, and the residual standard deviation of the error term for stock A is 18%. The standard deviation for the market index M is 14%, the expected return on M is 11%, the risk-free rate of return is 3%, and the expected return on stock A is 22%. What is the Sharpe Ratio for the optimal risky portfolio formed by the optimal combination of the active stock A with the passive market index M? Note that the Sharpe Ratio is usually expressed as a decimal.