Fin 534 Week 4 Quiz 5 Answers

3442 words - 14 pages

FIN 534 Quiz 4

Question 1
Assume that in recent years both expected inflation and the market risk premium (rM− rRF) have declined. Assume also that all stocks have positive betas. Which of the following would be most likely to have occurred as a result of these changes?

1) The required returns on all stocks have fallen, but the decline has been greater for stocks with lower betas.
2) The required returns on all stocks have fallen, but the fall has been greater for stocks with higher betas
3) The average required return on the market, rM, has remained constant, but the required returns have fallen for stocks that have betas greater than 1.0
4) Required returns ...view middle of the document...

d. All of the statements above are correct.
e. Statements b and c are correct.

Question 4
A 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?

1) Either A or B, i.e., the investor should be indifferent between the two
2) Stock A
3) Stock B
4) Neither A nor B, as neither has a return sufficient to compensate for risk
5) Add A, since its beta must be lower

Question 5
Stock X has a beta of 0.5 and Stock Y has a beta of 1.5. Which of the following statements must be true, according to the CAPM?

If you invest $50,000 in Stock X and $50,000 in Stock Y, your 2-stock portfolio will have a beta significantly lower than 1.0, provided the returns on the two stocks are not perfectly correlated.
Stock Y's return during the coming year will be higher than Stock X's return.
If expected inflation increases but the market risk premium is unchanged, the required returns on the two stocks will increase by the same amount.
Stock Y's return has a higher standard deviation than Stock X.
If the market risk premium declines, but the risk-free rate is unchanged, Stock X will have a larger decline in its required return than will Stock Y.

Question 6
During the coming year, the market risk premium (rM − rRF), is expected to fall, while the risk-free rate, rRF, is expected to remain the same. Given this forecast, which of the following statements is CORRECT?

a. The required return will increase for stocks with a beta less than 1.0 and will decrease for stocks with a
beta greater than 1.0.
b. The required return on all stocks will remain unchanged.
c. The required return will fall for all stocks, but it will fall more for stocks with higher betas.
d. The required return for all stocks will fall by the same amount.
e. The required return will fall for all stocks, but it will fall less for stocks with higher betas

Question 7
Stock A's beta is 1.5 and Stock B's beta is 0.5. Which of the following statements must be true, assuming the CAPM is correct.

1) Stock A's beta is 1.5 and Stock B's beta is 0.5. Which of the following statements must be true, assuming the CAPM is correct.
2) In equilibrium, the expected return on Stock B will be greater than that on Stock A
3) When held in isolation, Stock A has more risk than Stock B
4) Stock B would be a more desirable addition to a portfolio than A
5) In equilibrium, the expected return on Stock A will be greater than that on B

Question 8
Bob has a $50,000 stock portfolio with a...

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