Archive for June 2018

Security A has a higher standard deviation of returns than security B. We would expect that:

Security A has a higher standard deviation of returns than security B. We would expect that:


I. Security A would have a higher risk premium than security B.
II. The likely range of returns for security A in any given year would be higher than the likely range of returns for security B.
III. The Sharpe ratio of A will be higher than the Sharpe ratio of B.




A. I only

B. I and II only

C. II and III only

D. I, II, and III


Answer: B. I and II only

Consider a Treasury bill with a rate of return of 5% and the following risky securities:

Consider a Treasury bill with a rate of return of 5% and the following risky securities:


Security A: E(r) = .15; variance = .0400
Security B: E(r) = .10; variance = .0225
Security C: E(r) = .12; variance = .1000
Security D: E(r) = .13; variance = .0625

The investor must develop a complete portfolio by combining the risk-free asset with one of the securities mentioned above. The security the investor should choose as part of her complete portfolio to achieve the best CAL would be _________.




A. security A

B. security B

C. security C

D. security D


Answer: A. Security A

(.15-.05)/(.04)^5

Treasury bills are paying a 4% rate of return. A risk-averse investor with a risk aversion of A = 3 should invest entirely in a risky portfolio with a standard deviation of 24% only if the risky portfolio's expected return is at least ______.

Treasury bills are paying a 4% rate of return. A risk-averse investor with a risk aversion of A = 3 should invest entirely in a risky portfolio with a standard deviation of 24% only if the risky portfolio's expected return is at least ______. 





A. 8.67%

B. 9.84%

C. 21.28%

D. 14.68%


Answer: C. 21.28%

One method of forecasting the risk premium is to use the _______.

One method of forecasting the risk premium is to use the _______. 





A. coefficient of variation of analysts' earnings forecasts

B. variations in the risk-free rate over time

C. average historical excess returns for the asset under consideration

D. average abnormal return on the index portfolio


Answer: C. average historical excess returns for the asset under consideration

If you require a real growth in the purchasing power of your investment of 8%, and you expect the rate of inflation over the next year to be 3%, what is the lowest nominal return that you would be satisfied with?

If you require a real growth in the purchasing power of your investment of 8%, and you expect the rate of inflation over the next year to be 3%, what is the lowest nominal return that you would be satisfied with? 




A. 3%
B. 8%
C. 11%
D. 11.24%



Answer: D. 11.24%
Nominal rate = (1.08)(1.03)-1

In calculating the variance of a portfolio's returns, squaring the deviations from the mean results in:

In calculating the variance of a portfolio's returns, squaring the deviations from the mean results in:




I. Preventing the sum of the deviations from always equaling zero
II. Exaggerating the effects of large positive and negative deviations
III. A number for which the unit is percentage of returns




A. I only

B. I and II only

C. I and III only

D. I, II, and III


Answer: B. I and II only

Historically, small-firm stocks have earned higher returns than large-firm stocks. When viewed in the context of an efficient market, this suggests that ___________.

Historically, small-firm stocks have earned higher returns than large-firm stocks. When viewed in the context of an efficient market, this suggests that ___________. 





A. small firms are better run than large firms

B. government subsidies available to small firms produce effects that are discernible in stock market statistics

C. small firms are riskier than large firms

D. small firms are not being accurately represented in the data


Answer: C. small firms are riskier than large firms

Both investors and gamblers take on risk. The difference between an investor and a gambler is that an investor _______.

Both investors and gamblers take on risk. The difference between an investor and a gambler is that an investor _______. 





A. is normally risk neutral

B. requires a risk premium to take on the risk

C. knows he or she will not lose money

D. knows the outcomes at the beginning of the holding period



Answer: B. requires a risk premium to take on the risk

Your investment has a 20% chance of earning a 30% rate of return, a 50% chance of earning a 10% rate of return, and a 30% chance of losing 6%. What is your expected return on this investment?

Your investment has a 20% chance of earning a 30% rate of return, a 50% chance of earning a 10% rate of return, and a 30% chance of losing 6%. What is your expected return on this investment? 





A. 12.8%

B. 11%

C. 8.9%

D. 9.2%


Answer: D. 9.2%

(.2)(30%) + (.5)(10%) + (.3)(-6%) = 9.2%

The reward-to-volatility ratio is given by _________.

The reward-to-volatility ratio is given by _________. 





A. the slope of the capital allocation line

B. the second derivative of the capital allocation line

C. the point at which the second derivative of the investor's indifference curve reaches zero

D. the portfolio's excess return


Answer: A. the slope of the capital allocation line

The rate of return on _____ is known at the beginning of the holding period, while the rate of return on ____ is not known until the end of the holding period.

The rate of return on _____ is known at the beginning of the holding period, while the rate of return on ____ is not known until the end of the holding period. 






A. risky assets; Treasury bills

B. Treasury bills; risky assets

C. excess returns; risky assets

D. index assets; bonds


Answer: B. Treasury bills; risky assets

The excess return is the _________.

The excess return is the _________. 






A. rate of return that can be earned with certainty

B. rate of return in excess of the Treasury-bill rate

C. rate of return to risk aversion

D. index return



Answer: B. rate of return in excess of the Treasury-bill rate

The market risk premium is defined as __________.

The market risk premium is defined as __________. 






A. the difference between the return on an index fund and the return on Treasury bills

B. the difference between the return on a small-firm mutual fund and the return on the Standard & Poor's 500 Index

C. the difference between the return on the risky asset with the lowest returns and the return on Treasury bills

D. the difference between the return on the highest-yielding asset and the return on the lowest-yielding asset



Answer: A. The difference between the return on an index fund and the return on Treasury bills

The dollar-weighted return is the _________.

The dollar-weighted return is the _________. 





A. difference between cash inflows and cash outflows

B. arithmetic average return

C. geometric average return

D. internal rate of return


Answer: D. Internal rate of return

Your timing was good last year. You invested more in your portfolio right before prices went up, and you sold right before prices went down. In calculating historical performance measures, which one of the following will be the largest?

Your timing was good last year. You invested more in your portfolio right before prices went up, and you sold right before prices went down. In calculating historical performance measures, which one of the following will be the largest? 





A. Dollar-weighted return

B. Geometric average return

C. Arithmetic average return

D. Mean holding-period return



Answer: A. Dollar-weighted return

The holding period return on a stock is equal to _________.

The holding period return on a stock is equal to _________. 





A. the capital gain yield over the period plus the inflation rate

B. the capital gain yield over the period plus the dividend yield

C. the current yield plus the dividend yield

D. the dividend yield plus the risk premium



Answer: B. the capital gain yield over the period plus the dividend yield

You have calculated the historical dollar-weighted return, annual geometric average return, and annual arithmetic average return. You always reinvest your dividends and interest earned on the portfolio. Which method provides the best measure of the actual average historical performance of the investments you have chosen?

You have calculated the historical dollar-weighted return, annual geometric average return, and annual arithmetic average return. You always reinvest your dividends and interest earned on the portfolio. Which method provides the best measure of the actual average historical performance of the investments you have chosen? 





A. Dollar-weighted return

B. Geometric average return

C. Arithmetic average return

D. Index return



Answer: B. Geometric average return

The complete portfolio refers to the investment in _________.

The complete portfolio refers to the investment in _________. 





A. the risk-free asset

B. the risky portfolio

C. the risk-free asset and the risky portfolio combined

D. the risky portfolio and the index


Answer: C. the risk-free asset and the risky portfolio combined

You have calculated the historical dollar-weighted return, annual geometric average return, and annual arithmetic average return. If you desire to forecast performance for next year, the best forecast will be given by the ________.

You have calculated the historical dollar-weighted return, annual geometric average return, and annual arithmetic average return. If you desire to forecast performance for next year, the best forecast will be given by the ________. 





A. dollar-weighted return

B. geometric average return

C. arithmetic average return

D. index return


Answer: C. Arithmetic average return

If you want to measure the performance of your investment in a fund, including the timing of your purchases and redemptions, you should calculate the __________.

If you want to measure the performance of your investment in a fund, including the timing of your purchases and redemptions, you should calculate the __________. 





A. geometric average return

B. arithmetic average return

C. dollar-weighted return

D. index return



Answer: C. dollar-weighted return
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