Chapter 13 - Return, Risk, and The Security Market Line

Chapter 13 - Return, Risk, and the Security Market Line
Chapter 13
Return, Risk, and the Security Market Line

Multiple Choice Questions

1. You own a stock that you think will produce a return of 11 percent in a good econoy and
3 percent in a poor econoy. !i"en the pro#a#ilities of each state of the econoy occurring,
you anticipate that your stock will earn $.% percent ne&t year. 'hich one of the following
ters applies to this $.% percent(
). arithetic return
*. historical return
C. e&pected return
+. geoetric return
,. re-uired return

.. Su/ie owns fi"e different #onds "alued at 03$,111 and twel"e different stocks "alued at
02.,%11 total. 'hich one of the following ters ost applies to Su/ie3s in"estents(
). inde&
*. portfolio
C. collection
+. grouping
,. risk-free

3. Ste"e has in"ested in twel"e different stocks that ha"e a co#ined "alue today of 01.1,311.
4ifteen percent of that total is in"ested in 'ise Man 4oods. 5he 1% percent is a easure of
which one of the following(
). portfolio return
*. portfolio weight
C. degree of risk
+. price-earnings ratio
,. inde& "alue

13-1
6. 'hich one of the following is a risk that applies to ost securities(
). unsysteatic
*. di"ersifia#le
C. systeatic
+. asset-specific
,. total

%. ) news flash 7ust appeared that caused a#out a do/en stocks to suddenly drop in "alue #y
a#out .1 percent. 'hat type of risk does this news flash represent(
). portfolio
*. nondi"ersifia#le
C. arket
+. unsysteatic
,. total

$. 5he principle of di"ersification tells us that8
). concentrating an in"estent in two or three large stocks will eliinate all of the
unsysteatic risk.
*. concentrating an in"estent in three copanies all within the sae industry will greatly
reduce the systeatic risk.
C. spreading an in"estent across fi"e di"erse copanies will not lower the total risk.
+. spreading an in"estent across any di"erse assets will eliinate all of the systeatic
risk.
,. spreading an in"estent across any di"erse assets will eliinate soe of the total risk.

9. 5he ::::: tells us that the e&pected return on a risky asset depends only on that asset3s
nondi"ersifia#le risk.
). efficient arkets hypothesis
*. systeatic risk principle
C. open arkets theore
+. law of one price
,. principle of di"ersification

13-.
2. 'hich one of the following easures the aount of systeatic risk present in a particular
risky asset relati"e to the systeatic risk present in an a"erage risky asset(
). #eta
*. reward-to-risk ratio
C. risk ratio
+. standard de"iation
,. price-earnings ratio

;. 'hich one of the following is a positi"ely sloped linear function that is created when
e&pected returns are graphed against security #etas(
). reward-to-risk atri&
*. portfolio weight graph
C. noral distri#ution
+. security arket line
,. arket real returns

11. 'hich one of the following is represented #y the slope of the security arket line(
). reward-to-risk ratio
*. arket standard de"iation
C. #eta coefficient
+. risk-free interest rate
,. arket risk preiu

11. 'hich one of the following is the forula that e&plains the relationship #etween the
e&pected return on a security and the le"el of that security3s systeatic risk(
). capital asset pricing odel
*. tie "alue of oney e-uation
C. unsysteatic risk e-uation
+. arket perforance e-uation
,. e&pected risk forula

13-3
1.. 5reynor <ndustries is in"esting in a new pro7ect. 5he iniu rate of return the fir
re-uires on this pro7ect is referred to as the8
). a"erage arithetic return.
*. e&pected return.
C. arket rate of return.
+. internal rate of return.
,. cost of capital.

13. 5he e&pected return on a stock gi"en "arious states of the econoy is e-ual to the8
). highest e&pected return gi"en any econoic state.
*. arithetic a"erage of the returns for each econoic state.
C. suation of the indi"idual e&pected rates of return.
+. weighted a"erage of the returns for each econoic state.
,. return for the econoic state with the highest pro#a#ility of occurrence.

16. 5he e&pected return on a stock coputed using econoic pro#a#ilities is8
). guaranteed to e-ual the actual a"erage return on the stock for the ne&t fi"e years.
*. guaranteed to #e the inial rate of return on the stock o"er the ne&t two years.
C. guaranteed to e-ual the actual return for the iediate twel"e onth period.
+. a atheatical e&pectation #ased on a weighted a"erage and not an actual anticipated
outcoe.
,. the actual return you should anticipate as long as the econoic forecast reains constant.

1%. 5he e&pected risk preiu on a stock is e-ual to the e&pected return on the stock inus
the8
). e&pected arket rate of return.
*. risk-free rate.
C. inflation rate.
+. standard de"iation.
,. "ariance.

13-6
1$. Standard de"iation easures which type of risk(
). total
*. nondi"ersifia#le
C. unsysteatic
+. systeatic
,. econoic

19. 5he e&pected rate of return on a stock portfolio is a weighted a"erage where the weights
are #ased on the8
). nu#er of shares owned of each stock.
*. arket price per share of each stock.
C. arket "alue of the in"estent in each stock.
+. original aount in"ested in each stock.
,. cost per share of each stock held.

12. 5he e&pected return on a portfolio considers which of the following factors(
<. percentage of the portfolio in"ested in each indi"idual security
<<. pro7ected states of the econoy
<<<. the perforance of each security gi"en "arious econoic states
<=. pro#a#ility of occurrence for each state of the econoy
). < and <<< only
*. << and <= only
C. <, <<<, and <= only
+. <<, <<<, and <= only
,. <, <<, <<<, and <=

13-%
1;. 5he e&pected return on a portfolio8
<. can ne"er e&ceed the e&pected return of the #est perforing security in the portfolio.
<<. ust #e e-ual to or greater than the e&pected return of the worst perforing security in the
portfolio.
<<<. is independent of the unsysteatic risks of the indi"idual securities held in the portfolio.
<=. is independent of the allocation of the portfolio aongst indi"idual securities.
). < and <<< only
*. << and <= only
C. < and << only
+. <, <<, and <<< only
,. <, <<, <<<, and <=

.1. <f a stock portfolio is well di"ersified, then the portfolio "ariance8
). will e-ual the "ariance of the ost "olatile stock in the portfolio.
*. ay #e less than the "ariance of the least risky stock in the portfolio.
C. ust #e e-ual to or greater than the "ariance of the least risky stock in the portfolio.
+. will #e a weighted a"erage of the "ariances of the indi"idual securities in the portfolio.
,. will #e an arithetic a"erage of the "ariances of the indi"idual securities in the portfolio.

.1. 5he standard de"iation of a portfolio8
). is a weighted a"erage of the standard de"iations of the indi"idual securities held in the
portfolio.
*. can ne"er #e less than the standard de"iation of the ost risky security in the portfolio.
C. ust #e e-ual to or greater than the lowest standard de"iation of any single security held in
the portfolio.
+. is an arithetic a"erage of the standard de"iations of the indi"idual securities which
coprise the portfolio.
,. can #e less than the standard de"iation of the least risky security in the portfolio.

13-$
... 5he standard de"iation of a portfolio8
). is a easure of that portfolio3s systeatic risk.
*. is a weighed a"erage of the standard de"iations of the indi"idual securities held in that
portfolio.
C. easures the aount of di"ersifia#le risk inherent in the portfolio.
+. ser"es as the #asis for coputing the appropriate risk preiu for that portfolio.
,. can #e less than the weighted a"erage of the standard de"iations of the indi"idual securities
held in that portfolio.

.3. 'hich one of the following stateents is correct concerning a portfolio of .1 securities
with ultiple states of the econoy when #oth the securities and the econoic states ha"e
une-ual weights(
). !i"en the une-ual weights of #oth the securities and the econoic states, the standard
de"iation of the portfolio ust e-ual that of the o"erall arket.
*. 5he weights of the indi"idual securities ha"e no effect on the e&pected return of a portfolio
when ultiple states of the econoy are in"ol"ed.
C. Changing the pro#a#ilities of occurrence for the "arious econoic states will not affect the
e&pected standard de"iation of the portfolio.
+. 5he standard de"iation of the portfolio will #e greater than the highest standard de"iation
of any single security in the portfolio gi"en that the indi"idual securities are well di"ersified.
,. !i"en #oth the une-ual weights of the securities and the econoic states, an in"estor ight
#e a#le to create a portfolio that has an e&pected standard de"iation of /ero.

.6. 'hich one of the following e"ents would #e included in the e&pected return on Susse&
stock(
). 5he chief financial officer of Susse& une&pectedly resigned.
*. 5he la#or union representing Susse&3 eployees une&pectedly called a strike.
C. 5his orning, Susse& confired that its C,> is retiring at the end of the year as was
anticipated.
+. 5he price of Susse& stock suddenly declined in "alue #ecause researchers accidentally
disco"ered that one of the fir3s products can #e to&ic to household pets.
,. 5he #oard of directors ade an unprecedented decision to gi"e si/ea#le #onuses to the
fir3s internal auditors for their efforts in unco"ering wasteful spending.

13-9
.%. 'hich one of the following stateents is correct(
). 5he une&pected return is always negati"e.
*. 5he e&pected return inus the une&pected return is e-ual to the total return.
C. >"er tie, the a"erage return is e-ual to the une&pected return.
+. 5he e&pected return includes the surprise portion of news announceents.
,. >"er tie, the a"erage une&pected return will #e /ero.

.$. 'hich one of the following stateents related to une&pected returns is correct(
). )ll announceents #y a fir affect that fir3s une&pected returns.
*. ?ne&pected returns o"er tie ha"e a negati"e effect on the total return of a fir.
C. ?ne&pected returns are relati"ely predicta#le in the short-ter.
+. ?ne&pected returns generally cause the actual return to "ary significantly fro the
e&pected return o"er the long-ter.
,. ?ne&pected returns can #e either positi"e or negati"e in the short ter #ut tend to #e /ero
o"er the long-ter.

.9. 'hich one of the following is an e&aple of systeatic risk(
). in"estors panic causing security prices around the glo#e to fall precipitously
*. a flood washes away a fir3s warehouse
C. a city iposes an additional one percent sales ta& on all products
+. a toyaker has to recall its top-selling toy
,. corn prices increase due to increased deand for alternati"e fuels

.2. ?nsysteatic risk8
). can #e effecti"ely eliinated #y portfolio di"ersification.
*. is copensated for #y the risk preiu.
C. is easured #y #eta.
+. is easured #y standard de"iation.
,. is related to the o"erall econoy.

13-2
.;. 'hich one of the following is an e&aple of unsysteatic risk(
). incoe ta&es are increased across the #oard
*. a national sales ta& is adopted
C. inflation decreases at the national le"el
+. an increased feeling of prosperity is felt around the glo#e
,. consuer spending on entertainent decreased nationally

31. 'hich one of the following is least apt to reduce the unsysteatic risk of a portfolio(
). reducing the nu#er of stocks held in the portfolio
*. adding #onds to a stock portfolio
C. adding international securities into a portfolio of ?.S. stocks
+. adding ?.S. 5reasury #ills to a risky portfolio
,. adding technology stocks to a portfolio of industrial stocks

31. 'hich one of the following stateents is correct concerning unsysteatic risk(
). )n in"estor is rewarded for assuing unsysteatic risk.
*. ,liinating unsysteatic risk is the responsi#ility of the indi"idual in"estor.
C. ?nsysteatic risk is rewarded when it e&ceeds the arket le"el of unsysteatic risk.
+. *eta easures the le"el of unsysteatic risk inherent in an indi"idual security.
,. Standard de"iation is a easure of unsysteatic risk.

3.. 'hich one of the following stateents related to risk is correct(
). 5he #eta of a portfolio ust increase when a stock with a high standard de"iation is added
to the portfolio.
*. ,"ery portfolio that contains .% or ore securities is free of unsysteatic risk.
C. 5he systeatic risk of a portfolio can #e effecti"ely lowered #y adding 5-#ills to the
portfolio.
+. )dding fi"e additional stocks to a di"ersified portfolio will lower the portfolio3s #eta.
,. Stocks that o"e in tande with the o"erall arket ha"e /ero #etas.

13-;
33. 'hich one of the following risks is irrele"ant to a well-di"ersified in"estor(
). systeatic risk
*. unsysteatic risk
C. arket risk
+. nondi"ersifia#le risk
,. systeatic portion of a surprise

36. 'hich of the following are e&aples of di"ersifia#le risk(
<. earth-uake daages an entire town
<<. federal go"ernent iposes a 0111 fee on all #usiness entities
<<<. eployent ta&es increase nationally
<=. toyakers are re-uired to ipro"e their safety standards
). < and <<< only
*. << and <= only
C. << and <<< only
+. < and <= only
,. <, <<<, and <= only

3%. 'hich of the following stateents are correct concerning di"ersifia#le risks(
<. +i"ersifia#le risks can #e essentially eliinated #y in"esting in thirty unrelated securities.
<<. 5here is no reward for accepting di"ersifia#le risks.
<<<. +i"ersifia#le risks are generally associated with an indi"idual fir or industry.
<=. *eta easures di"ersifia#le risk.
). < and <<< only
*. << and <= only
C. < and <= only
+. <, << and <<< only
,. <, <<, <<<, and <=

3$. 'hich one of the following is the #est e&aple of a di"ersifia#le risk(
). interest rates increase
*. energy costs increase
C. core inflation increases
+. a fir3s sales decrease
,. ta&es decrease

13-11
39. 'hich of the following stateents concerning risk are correct(
<. @ondi"ersifia#le risk is easured #y #eta.
<<. 5he risk preiu increases as di"ersifia#le risk increases.
<<<. Systeatic risk is another nae for nondi"ersifia#le risk.
<=. +i"ersifia#le risks are arket risks you cannot a"oid.
). < and <<< only
*. << and <= only
C. < and << only
+. <<< and <= only
,. <, <<, and <<< only

32. 5he priary purpose of portfolio di"ersification is to8
). increase returns and risks.
*. eliinate all risks.
C. eliinate asset-specific risk.
+. eliinate systeatic risk.
,. lower #oth returns and risks.

3;. 'hich one of the following indicates a portfolio is #eing effecti"ely di"ersified(
). an increase in the portfolio #eta
*. a decrease in the portfolio #eta
C. an increase in the portfolio rate of return
+. an increase in the portfolio standard de"iation
,. a decrease in the portfolio standard de"iation

61. Aow any di"erse securities are re-uired to eliinate the a7ority of the di"ersifia#le risk
fro a portfolio(
). %
*. 11
C. .%
+. %1
,. 9%

13-11
61. Systeatic risk is easured #y8
). the ean.
*. #eta.
C. the geoetric a"erage.
+. the standard de"iation.
,. the arithetic a"erage.

6.. 'hich one of the following is ost directly affected #y the le"el of systeatic risk in a
security(
). "ariance of the returns
*. standard de"iation of the returns
C. e&pected rate of return
+. risk-free rate
,. arket risk preiu

63. 'hich one of the following stateents is correct concerning a portfolio #eta(
). Bortfolio #etas range #etween -1.1 and C1.1.
*. ) portfolio #eta is a weighted a"erage of the #etas of the indi"idual securities contained in
the portfolio.
C. ) portfolio #eta cannot #e coputed fro the #etas of the indi"idual securities coprising
the portfolio #ecause soe risk is eliinated "ia di"ersification.
+. ) portfolio of ?.S. 5reasury #ills will ha"e a #eta of C1.1.
,. 5he #eta of a arket portfolio is e-ual to /ero.

66. 5he systeatic risk of the arket is easured #y8
). a #eta of 1.1.
*. a #eta of 1.1.
C. a standard de"iation of 1.1.
+. a standard de"iation of 1.1.
,. a "ariance of 1.1.

13-1.
6%. )t a iniu, which of the following would you need to know to estiate the aount of
additional reward you will recei"e for purchasing a risky asset instead of a risk-free asset(
<. asset3s standard de"iation
<<. asset3s #eta
<<<. risk-free rate of return
<=. arket risk preiu
). < and <<< only
*. << and <= only
C. <<< and <= only
+. <, <<<, and <= only
,. <, <<, <<<, and <=

6$. 5otal risk is easured #y ::::: and systeatic risk is easured #y :::::.
). #etaD alpha
*. #etaD standard de"iation
C. alphaD #eta
+. standard de"iationD #eta
,. standard de"iationD "ariance

69. 5he intercept point of the security arket line is the rate of return which corresponds to8
). the risk-free rate.
*. the arket rate.
C. a return of /ero.
+. a return of 1.1 percent.
,. the arket risk preiu.

62. ) stock with an actual return that lies a#o"e the security arket line has8
). ore systeatic risk than the o"erall arket.
*. ore risk than that warranted #y C)BM.
C. a higher return than e&pected for the le"el of risk assued.
+. less systeatic risk than the o"erall arket.
,. a return e-ui"alent to the le"el of risk assued.

13-13
6;. 5he arket rate of return is 11 percent and the risk-free rate of return is 3 percent. Le&ant
stock has 3 percent less systeatic risk than the arket and has an actual return of 1. percent.
5his stock8
). is underpriced.
*. is correctly priced.
C. will plot #elow the security arket line.
+. will plot on the security arket line.
,. will plot to the right of the o"erall arket on a security arket line graph.

%1. 'hich one of the following will #e constant for all securities if the arket is efficient and
securities are priced fairly(
). "ariance
*. standard de"iation
C. reward-to-risk ratio
+. #eta
,. risk preiu

%1. 5he reward-to-risk ratio for stock ) is less than the reward-to-risk ratio of stock *. Stock
) has a #eta of 1.2. and stock * has a #eta of 1..;. 5his inforation iplies that8
). stock ) is riskier than stock * and #oth stocks are fairly priced.
*. stock ) is less risky than stock * and #oth stocks are fairly priced.
C. either stock ) is underpriced or stock * is o"erpriced or #oth.
+. either stock ) is o"erpriced or stock * is underpriced or #oth.
,. #oth stock ) and stock * are correctly priced since stock ) is riskier than stock *.

%.. 5he arket risk preiu is coputed #y8
). adding the risk-free rate of return to the inflation rate.
*. adding the risk-free rate of return to the arket rate of return.
C. su#tracting the risk-free rate of return fro the inflation rate.
+. su#tracting the risk-free rate of return fro the arket rate of return.
,. ultiplying the risk-free rate of return #y a #eta of 1.1.

13-16
%3. 5he e&cess return earned #y an asset that has a #eta of 1.36 o"er that earned #y a risk-free
asset is referred to as the8
). arket risk preiu.
*. risk preiu.
C. systeatic return.
+. total return.
,. real rate of return.

%6. 5he ::::: of a security di"ided #y the #eta of that security is e-ual to the slope of the
security arket line if the security is priced fairly.
). real return
*. actual return
C. noinal return
+. risk preiu
,. e&pected return

%%. 5he capital asset pricing odel EC)BMF assues which of the following(
<. a risk-free asset has no systeatic risk.
<<. #eta is a relia#le estiate of total risk.
<<<. the reward-to-risk ratio is constant.
<=. the arket rate of return can #e appro&iated.
). < and <<< only
*. << and <= only
C. <, <<<, and <= only
+. <<, <<<, and <= only
,. <, <<, <<<, and <=

%$. )ccording to C)BM, the aount of reward an in"estor recei"es for #earing the risk of an
indi"idual security depends upon the8
). aount of total risk assued and the arket risk preiu.
*. arket risk preiu and the aount of systeatic risk inherent in the security.
C. risk free rate, the arket rate of return, and the standard de"iation of the security.
+. #eta of the security and the arket rate of return.
,. standard de"iation of the security and the risk-free rate of return.

13-1%
%9. 'hich one of the following should earn the ost risk preiu #ased on C)BM(
). di"ersified portfolio with returns siilar to the o"erall arket
*. stock with a #eta of 1.32
C. stock with a #eta of 1.96
+. ?.S. 5reasury #ill
,. portfolio with a #eta of 1.11

%2. You want your portfolio #eta to #e 1.;%. Currently, your portfolio consists of 06,111
in"ested in stock ) with a #eta of 1.69 and 03,111 in stock * with a #eta of 1.%6. You ha"e
another 0;,111 to in"est and want to di"ide it #etween an asset with a #eta of 1.96 and a risk-
free asset. Aow uch should you in"est in the risk-free asset(
). 06,31$.12
*. 06,6.%..;
C. 06,;1...;
+. 06,%96.91
,. 06,$23.;.

%;. You ha"e a 01.,111 portfolio which is in"ested in stocks ) and *, and a risk-free asset.
0%,111 is in"ested in stock ). Stock ) has a #eta of 1.9$ and stock * has a #eta of 1.2;. Aow
uch needs to #e in"ested in stock * if you want a portfolio #eta of 1.11(
). 03,9%1.11
*. 06,333.33
C. 06,91$..1
+. 06,;63.2.
,. 0%,61;..9

$1. You recently purchased a stock that is e&pected to earn .. percent in a #ooing econoy,
; percent in a noral econoy, and lose 33 percent in a recessionary econoy. 5here is a %
percent pro#a#ility of a #oo and a 9% percent chance of a noral econoy. 'hat is your
e&pected rate of return on this stock(
). -3.61 percent
*. -...% percent
C. 1..% percent
+. ..$1 percent
,. 3.%1 percent

13-1$
$1. 5he coon stock of Manchester G Moore is e&pected to earn 13 percent in a recession,
$ percent in a noral econoy, and lose 6 percent in a #ooing econoy. 5he pro#a#ility of
a #oo is % percent while the pro#a#ility of a recession is 6% percent. 'hat is the e&pected
rate of return on this stock(
). 2.%. percent
*. 2.96 percent
C. 2.$% percent
+. ;.1% percent
,. ;..2 percent

$.. You are coparing stock ) to stock *. !i"en the following inforation, what is the
difference in the e&pected returns of these two securities(

). -1.2% percent
*. 1.;% percent
C. ..1% percent
+. 13.6% percent
,. 13.%% percent

$3. Herilu Markets has a #eta of 1.1;. 5he risk-free rate of return is ..9% percent and the
arket rate of return is ;.21 percent. 'hat is the risk preiu on this stock(
). $.69 percent
*. 9.13 percent
C. 9.$2 percent
+. 2.;; percent
,. ;.21 percent

13-19
$6. <f the econoy is noral, Charleston 4reight stock is e&pected to return 1%.9 percent. <f
the econoy falls into a recession, the stock3s return is pro7ected at a negati"e 11.$ percent.
5he pro#a#ility of a noral econoy is 21 percent while the pro#a#ility of a recession is .1
percent. 'hat is the "ariance of the returns on this stock(
). 1.11136$
*. 1.111;.%
C. 1.1136.1
+. 1.113;.9
,. 1.11631%

$%. 5he rate of return on the coon stock of Lancaster 'oolens is e&pected to #e .1 percent
in a #oo econoy, 11 percent in a noral econoy, and only 3 percent in a recessionary
econoy. 5he pro#a#ilities of these econoic states are 11 percent for a #oo, 91 percent for
a noral econoy, and .1 percent for a recession. 'hat is the "ariance of the returns on this
coon stock(
). 1.11.1%1
*. 1.11.$1$
C. 1.11..66
+. 1.11.3%;
,. 1.11.6.1

$$. 5he returns on the coon stock of @ew <age Broducts are -uite cyclical. <n a #oo
econoy, the stock is e&pected to return 3. percent in coparison to 16 percent in a noral
econoy and a negati"e .2 percent in a recessionary period. 5he pro#a#ility of a recession is
.% percent while the pro#a#ility of a #oo is 11 percent. 'hat is the standard de"iation of the
returns on this stock(
). 1;.;6 percent
*. .1.%$ percent
C. .%.23 percent
+. 3..12 percent
,. 3;.99 percent

13-12
$9. 'hat is the standard de"iation of the returns on a stock gi"en the following inforation(

). 1.%9 percent
*. ..13 percent
C. ..2; percent
+. 3.6. percent
,. 6.11 percent

$2. You ha"e a portfolio consisting solely of stock ) and stock *. 5he portfolio has an
e&pected return of 2.9 percent. Stock ) has an e&pected return of 11.6 percent while stock * is
e&pected to return $.6 percent. 'hat is the portfolio weight of stock )(
). 3; percent
*. 6$ percent
C. %6 percent
+. $1 percent
,. $9 percent

$;. You own the following portfolio of stocks. 'hat is the portfolio weight of stock C(

). 3;.2% percent
*. 6..2$ percent
C. 66.61 percent
+. 62.1; percent
,. %..$% percent

13-1;
91. You own a portfolio with the following e&pected returns gi"en the "arious states of the
econoy. 'hat is the o"erall portfolio e&pected return(

). $.6; percent
*. 2.$6 percent
C. 2.29 percent
+. ;.1% percent
,. ;..3 percent

91. 'hat is the e&pected return on a portfolio which is in"ested .% percent in stock ), %%
percent in stock *, and the reainder in stock C(

). -1.1$ percent
*. ..32 percent
C. ..;; percent
+. %.;3 percent
,. $.11 percent

13-.1
9.. 'hat is the e&pected return on this portfolio(

). 11.62 percent
*. 11.;. percent
C. 13.13 percent
+. 13.6. percent
,. 13.;9 percent

93. 'hat is the e&pected return on a portfolio that is e-ually weighted #etween stocks I and
L gi"en the following inforation(

). 11.13 percent
*. 11.2$ percent
C. 1...% percent
+. 13.3. percent
,. 16.61 percent

13-.1
96. 'hat is the e&pected return on a portfolio coprised of 0$,.11 of stock M and 06,%11 of
stock @ if the econoy en7oys a #oo period(

). 11.;3 percent
*. 11.1$ percent
C. 1..%% percent
+. 13.92 percent
,. 1%.63 percent

9%. 'hat is the "ariance of the returns on a portfolio that is in"ested $1 percent in stock S and
61 percent in stock 5(

). .111119
*. .1111.3
C. .111112
+. .11113$
,. .1111$1

13-..
9$. 'hat is the "ariance of the returns on a portfolio coprised of 0%,611 of stock ! and
0$,$11 of stock A(

). .11191;
*. .111262
C. .1111;9
+. .111.%6
,. .1116$2

99. 'hat is the standard de"iation of the returns on a portfolio that is in"ested %. percent in
stock J and 62 percent in stock R(

). 1.$$ percent
*. ..69 percent
C. ..$3 percent
+. 3..2 percent
,. 3.61 percent

13-.3
92. 'hat is the standard de"iation of the returns on a 031,111 portfolio which consists of
stocks S and 5( Stock S is "alued at 01.,111.

). 1.19 percent
*. 1... percent
C. 1.3$ percent
+. 1.6; percent
,. 1.$3 percent

9;. 'hat is the standard de"iation of the returns on a portfolio that is in"ested in stocks ), *,
and C( 5wenty fi"e percent of the portfolio is in"ested in stock ) and 61 percent is in"ested in
stock C.

). $.31 percent
*. $.6; percent
C. 9.61 percent
+. 9.23 percent
,. 2.9. percent

13-.6
21. 'hat is the #eta of the following portfolio(

). 1.16
*. 1.19
C. 1.13
+. 1.1$
,. 1..3

21. Your portfolio is coprised of 61 percent of stock K, 1% percent of stock Y, and 6%
percent of stock L. Stock K has a #eta of 1.1$, stock Y has a #eta of 1.69, and stock L has a
#eta of 1.6.. 'hat is the #eta of your portfolio(
). 1.29
*. 1.1;
C. 1.13
+. 1.12
,. 1..1

2.. Your portfolio has a #eta of 1.1.. 5he portfolio consists of .1 percent ?.S. 5reasury #ills,
%1 percent stock ), and 31 percent stock *. Stock ) has a risk-le"el e-ui"alent to that of the
o"erall arket. 'hat is the #eta of stock *(
). 1.69
*. 1.%.
C. 1.$;
+. 1.26
,. ..19

13-.%
23. You would like to co#ine a risky stock with a #eta of 1.$2 with ?.S. 5reasury #ills in
such a way that the risk le"el of the portfolio is e-ui"alent to the risk le"el of the o"erall
arket. 'hat percentage of the portfolio should #e in"ested in the risky stock(
). 3. percent
*. 61 percent
C. %6 percent
+. $1 percent
,. $2 percent

26. 5he arket has an e&pected rate of return of 11.9 percent. 5he long-ter go"ernent
#ond is e&pected to yield %.2 percent and the ?.S. 5reasury #ill is e&pected to yield 3.;
percent. 5he inflation rate is 3.$ percent. 'hat is the arket risk preiu(
). $.1 percent
*. $.2 percent
C. 9.% percent
+. 2.% percent
,. ;.3 percent

2%. 5he risk-free rate of return is 3.; percent and the arket risk preiu is $.. percent.
'hat is the e&pected rate of return on a stock with a #eta of 1..1(
). 11.;. percent
*. 11.61 percent
C. 1.... percent
+. 1..69 percent
,. 1..9; percent

2$. 5he coon stock of Hensen Shipping has an e&pected return of 1$.3 percent. 5he return
on the arket is 11.2 percent and the risk-free rate of return is 3.2 percent. 'hat is the #eta of
this stock(
). .;.
*. 1..3
C. 1.33
+. 1.$9
,. 1.9;

13-.$
29. 5he coon stock of ?nited <ndustries has a #eta of 1.36 and an e&pected return of 16..;
percent. 5he risk-free rate of return is 3.9 percent. 'hat is the e&pected arket risk
preiu(
). 9.1. percent
*. 9.;1 percent
C. 11.$3 percent
+. 11... percent
,. 11.$1 percent

22. 5he e&pected return on HI stock is 1%.92 percent while the e&pected return on the arket
is 11.36 percent. 5he stock3s #eta is 1.$.. 'hat is the risk-free rate of return(
). 3... percent
*. 3.%; percent
C. 3.$3 percent
+. 3.9; percent
,. 6.12 percent

2;. 5hayer 4ars stock has a #eta of 1.1.. 5he risk-free rate of return is 6.36 percent and the
arket risk preiu is 9.;. percent. 'hat is the e&pected rate of return on this stock(
). 2.3% percent
*. ;.11 percent
C. 11..3 percent
+. 13..1 percent
,. 13.93 percent

;1. 5he coon stock of )lpha Manufacturers has a #eta of 1.69 and an actual e&pected
return of 1%..$ percent. 5he risk-free rate of return is 6.3 percent and the arket rate of return
is 1..11 percent. 'hich one of the following stateents is true gi"en this inforation(
). 5he actual e&pected stock return will graph a#o"e the Security Market Line.
*. 5he stock is underpriced.
C. 5o #e correctly priced according to C)BM, the stock should ha"e an e&pected return of
.1.;% percent.
+. 5he stock has less systeatic risk than the o"erall arket.
,. 5he actual e&pected stock return indicates the stock is currently o"erpriced.

13-.9
;1. 'hich one of the following stocks is correctly priced if the risk-free rate of return is 3.9
percent and the arket risk preiu is 2.2 percent(

). )
*. *
C. C
+. +
,. ,

;.. 'hich one of the following stocks is correctly priced if the risk-free rate of return is 3..
percent and the arket rate of return is 11.9$ percent(

). )
*. *
C. C
+. +
,. ,

Essay Questions

13-.2
;3. )ccording to C)BM, the e&pected return on a risky asset depends on three coponents.
+escri#e each coponent and e&plain its role in deterining e&pected return.

;6. ,&plain how the slope of the security arket line is deterined and why e"ery stock that
is correctly priced, according to C)BM, will lie on this line.

;%. ,&plain how the #eta of a portfolio can e-ual the arket #eta if %1 percent of the portfolio
is in"ested in a security that has twice the aount of systeatic risk as an a"erage risky
security.

;$. ,&plain the difference #etween systeatic and unsysteatic risk. )lso e&plain why one of
these types of risks is rewarded with a risk preiu while the other type is not.

13-.;
;9. ) portfolio #eta is a weighted a"erage of the #etas of the indi"idual securities which
coprise the portfolio. Aowe"er, the standard de"iation is not a weighted a"erage of the
standard de"iations of the indi"idual securities which coprise the portfolio. ,&plain why this
difference e&ists.


;2. You own a portfolio that has 0.,111 in"ested in Stock ) and 01,611 in"ested in Stock *.
5he e&pected returns on these stocks are 16 percent and ; percent, respecti"ely. 'hat is the
e&pected return on the portfolio(
). 11.1$ percent
*. 11.%1 percent
C. 11.;6 percent
+. 1..13 percent
,. 1..61 percent

;;. You ha"e 011,111 to in"est in a stock portfolio. Your choices are Stock K with an
e&pected return of 13 percent and Stock Y with an e&pected return of 2 percent. Your goal is
to create a portfolio with an e&pected return of 1..6 percent. )ll oney ust #e in"ested.
Aow uch will you in"est in stock K(
). 0211
*. 01,.11
C. 06,$11
+. 02,211
,. 0;,.11

13-31
111. 'hat is the e&pected return and standard de"iation for the following stock(

). 1%.6; percentD 16..2 percent
*. 1%.6; percentD 16.$9 percent
C. 19.11 percentD 1%..6 percent
+. 19.11 percentD 1%.96 percent
,. 19.11 percent3D 1$.11 percent

111. 'hat is the e&pected return of an e-ually weighted portfolio coprised of the following
three stocks(

). 1$.33 percent
*. 12.$1 percent
C. 1;.$9 percent
+. .1.62 percent
,. .1.33 percent

13-31
11.. Your portfolio is in"ested .$ percent each in Stocks ) and C, and 62 percent in Stock *.
'hat is the standard de"iation of your portfolio gi"en the following inforation(

). 1..32 percent
*. 1..$6 percent
C. 1..9. percent
+. 1..2; percent
,. 13.93 percent

113. You own a portfolio e-ually in"ested in a risk-free asset and two stocks. >ne of the
stocks has a #eta of 1.; and the total portfolio is e-ually as risky as the arket. 'hat is the
#eta of the second stock(
). 1.9%
*. 1.21
C. 1.;6
+. 1.11
,. 1.11

116. ) stock has an e&pected return of 11 percent, the risk-free rate is $.1 percent, and the
arket risk preiu is 6 percent. 'hat is the stock3s #eta(
). 1.12
*. 1..3
C. 1..;
+. 1.3.
,. 1.3%

13-3.
11%. ) stock has a #eta of 1.. and an e&pected return of 19 percent. ) risk-free asset currently
earns %.1 percent. 5he #eta of a portfolio coprised of these two assets is 1.2%. 'hat
percentage of the portfolio is in"ested in the stock(
). 91 percent
*. 99 percent
C. 26 percent
+. 2; percent
,. ;. percent

11$. Consider the following inforation on three stocks8

) portfolio is in"ested 3% percent each in Stock ) and Stock * and 31 percent in Stock C.
'hat is the e&pected risk preiu on the portfolio if the e&pected 5-#ill rate is 3.2 percent(
). 11.69 percent
*. 1..32 percent
C. 1$.$9 percent
+. .6..; percent
,. .;.;; percent

13-33
119. Suppose you o#ser"e the following situation8

)ssue these securities are correctly priced. *ased on the C)BM, what is the return on the
arket(
). 13.;; percent
*. 16.6. percent
C. 16.$9 percent
+. 16.92 percent
,. 1%.11 percent

112. Consider the following inforation on Stocks < and <<8

5he arket risk preiu is 2 percent, and the risk-free rate is 3.$ percent. 5he #eta of stock <
is ::::: and the #eta of stock << is :::::.
). ..12D ..69
*. ..12D ..9$
C. 3..1D 3.26
+. 6.69D 3.2;
,. 6.69D 6..$

13-36
11;. Suppose you o#ser"e the following situation8

)ssue the capital asset pricing odel holds and stock )3s #eta is greater than stock *3s #eta
#y 1..1. 'hat is the e&pected arket risk preiu(
). 2.2 percent
*. ;.% percent
C. 1..$ percent
+. 19.; percent
,. .1.1 percent

13-3%
Chapter 13 Return, Risk, and the Security Market Line )nswer Iey


1. You own a stock that you think will produce a return of 11 percent in a good econoy and
3 percent in a poor econoy. !i"en the pro#a#ilities of each state of the econoy occurring,
you anticipate that your stock will earn $.% percent ne&t year. 'hich one of the following
ters applies to this $.% percent(
). arithetic return
*. historical return
C. e&pected return
+. geoetric return
,. re-uired return
Refer to section 13.1

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Section: "#%"
&o'ic: ()'ected return

.. Su/ie owns fi"e different #onds "alued at 03$,111 and twel"e different stocks "alued at
02.,%11 total. 'hich one of the following ters ost applies to Su/ie3s in"estents(
). inde&
B. portfolio
C. collection
+. grouping
,. risk-free
Refer to section 13..

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&o'ic: +ortfolio

13-3$
3. Ste"e has in"ested in twel"e different stocks that ha"e a co#ined "alue today of 01.1,311.
4ifteen percent of that total is in"ested in 'ise Man 4oods. 5he 1% percent is a easure of
which one of the following(
). portfolio return
B. portfolio weight
C. degree of risk
+. price-earnings ratio
,. inde& "alue

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&o'ic: +ortfolio weig,t

6. 'hich one of the following is a risk that applies to ost securities(
). unsysteatic
*. di"ersifia#le
C. systeatic
+. asset-specific
,. total

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&o'ic: Systematic ris.

13-39
%. ) news flash 7ust appeared that caused a#out a do/en stocks to suddenly drop in "alue #y
a#out .1 percent. 'hat type of risk does this news flash represent(
). portfolio
*. nondi"ersifia#le
C. arket
D. unsysteatic
,. total

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Section: "#%-
&o'ic: /nsystematic ris.

$. 5he principle of di"ersification tells us that8
). concentrating an in"estent in two or three large stocks will eliinate all of the
unsysteatic risk.
*. concentrating an in"estent in three copanies all within the sae industry will greatly
reduce the systeatic risk.
C. spreading an in"estent across fi"e di"erse copanies will not lower the total risk.
+. spreading an in"estent across any di"erse assets will eliinate all of the systeatic
risk.
E. spreading an in"estent across any di"erse assets will eliinate soe of the total risk.
Refer to section 13.%

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&o'ic: Di!ersification

13-32
9. 5he ::::: tells us that the e&pected return on a risky asset depends only on that asset3s
nondi"ersifia#le risk.
). efficient arkets hypothesis
B. systeatic risk principle
C. open arkets theore
+. law of one price
,. principle of di"ersification
Refer to section 13.$

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2. 'hich one of the following easures the aount of systeatic risk present in a particular
risky asset relati"e to the systeatic risk present in an a"erage risky asset(
A. #eta
*. reward-to-risk ratio
C. risk ratio
+. standard de"iation
,. price-earnings ratio

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&o'ic: Beta

13-3;
;. 'hich one of the following is a positi"ely sloped linear function that is created when
e&pected returns are graphed against security #etas(
). reward-to-risk atri&
*. portfolio weight graph
C. noral distri#ution
D. security arket line
,. arket real returns

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&o'ic: Security mar.et line

11. 'hich one of the following is represented #y the slope of the security arket line(
). reward-to-risk ratio
*. arket standard de"iation
C. #eta coefficient
+. risk-free interest rate
E. arket risk preiu

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13-61
11. 'hich one of the following is the forula that e&plains the relationship #etween the
e&pected return on a security and the le"el of that security3s systeatic risk(
A. capital asset pricing odel
*. tie "alue of oney e-uation
C. unsysteatic risk e-uation
+. arket perforance e-uation
,. e&pected risk forula

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&o'ic: Ca'ital asset 'ricing model

1.. 5reynor <ndustries is in"esting in a new pro7ect. 5he iniu rate of return the fir
re-uires on this pro7ect is referred to as the8
). a"erage arithetic return.
*. e&pected return.
C. arket rate of return.
+. internal rate of return.
E. cost of capital.

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&o'ic: Cost of ca'ital

13-61
13. 5he e&pected return on a stock gi"en "arious states of the econoy is e-ual to the8
). highest e&pected return gi"en any econoic state.
*. arithetic a"erage of the returns for each econoic state.
C. suation of the indi"idual e&pected rates of return.
D. weighted a"erage of the returns for each econoic state.
,. return for the econoic state with the highest pro#a#ility of occurrence.

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16. 5he e&pected return on a stock coputed using econoic pro#a#ilities is8
). guaranteed to e-ual the actual a"erage return on the stock for the ne&t fi"e years.
*. guaranteed to #e the inial rate of return on the stock o"er the ne&t two years.
C. guaranteed to e-ual the actual return for the iediate twel"e onth period.
D. a atheatical e&pectation #ased on a weighted a"erage and not an actual anticipated
outcoe.
,. the actual return you should anticipate as long as the econoic forecast reains constant.

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13-6.
1%. 5he e&pected risk preiu on a stock is e-ual to the e&pected return on the stock inus
the8
). e&pected arket rate of return.
B. risk-free rate.
C. inflation rate.
+. standard de"iation.
,. "ariance.

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&o'ic: 4is. 'remium

1$. Standard de"iation easures which type of risk(
A. total
*. nondi"ersifia#le
C. unsysteatic
+. systeatic
,. econoic

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&o'ic: Standard de!iation

13-63
19. 5he e&pected rate of return on a stock portfolio is a weighted a"erage where the weights
are #ased on the8
). nu#er of shares owned of each stock.
*. arket price per share of each stock.
C. arket "alue of the in"estent in each stock.
+. original aount in"ested in each stock.
,. cost per share of each stock held.

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12. 5he e&pected return on a portfolio considers which of the following factors(
<. percentage of the portfolio in"ested in each indi"idual security
<<. pro7ected states of the econoy
<<<. the perforance of each security gi"en "arious econoic states
<=. pro#a#ility of occurrence for each state of the econoy
). < and <<< only
*. << and <= only
C. <, <<<, and <= only
+. <<, <<<, and <= only
E. <, <<, <<<, and <=

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13-66
1;. 5he e&pected return on a portfolio8
<. can ne"er e&ceed the e&pected return of the #est perforing security in the portfolio.
<<. ust #e e-ual to or greater than the e&pected return of the worst perforing security in the
portfolio.
<<<. is independent of the unsysteatic risks of the indi"idual securities held in the portfolio.
<=. is independent of the allocation of the portfolio aongst indi"idual securities.
). < and <<< only
*. << and <= only
C. < and << only
D. <, <<, and <<< only
,. <, <<, <<<, and <=
Refer to sections 13.. and 13.$

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.1. <f a stock portfolio is well di"ersified, then the portfolio "ariance8
). will e-ual the "ariance of the ost "olatile stock in the portfolio.
B. ay #e less than the "ariance of the least risky stock in the portfolio.
C. ust #e e-ual to or greater than the "ariance of the least risky stock in the portfolio.
+. will #e a weighted a"erage of the "ariances of the indi"idual securities in the portfolio.
,. will #e an arithetic a"erage of the "ariances of the indi"idual securities in the portfolio.

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13-6%
.1. 5he standard de"iation of a portfolio8
). is a weighted a"erage of the standard de"iations of the indi"idual securities held in the
portfolio.
*. can ne"er #e less than the standard de"iation of the ost risky security in the portfolio.
C. ust #e e-ual to or greater than the lowest standard de"iation of any single security held in
the portfolio.
+. is an arithetic a"erage of the standard de"iations of the indi"idual securities which
coprise the portfolio.
E. can #e less than the standard de"iation of the least risky security in the portfolio.

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... 5he standard de"iation of a portfolio8
). is a easure of that portfolio3s systeatic risk.
*. is a weighed a"erage of the standard de"iations of the indi"idual securities held in that
portfolio.
C. easures the aount of di"ersifia#le risk inherent in the portfolio.
+. ser"es as the #asis for coputing the appropriate risk preiu for that portfolio.
E. can #e less than the weighted a"erage of the standard de"iations of the indi"idual securities
held in that portfolio.

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13-6$
.3. 'hich one of the following stateents is correct concerning a portfolio of .1 securities
with ultiple states of the econoy when #oth the securities and the econoic states ha"e
une-ual weights(
). !i"en the une-ual weights of #oth the securities and the econoic states, the standard
de"iation of the portfolio ust e-ual that of the o"erall arket.
*. 5he weights of the indi"idual securities ha"e no effect on the e&pected return of a portfolio
when ultiple states of the econoy are in"ol"ed.
C. Changing the pro#a#ilities of occurrence for the "arious econoic states will not affect the
e&pected standard de"iation of the portfolio.
+. 5he standard de"iation of the portfolio will #e greater than the highest standard de"iation
of any single security in the portfolio gi"en that the indi"idual securities are well di"ersified.
E. !i"en #oth the une-ual weights of the securities and the econoic states, an in"estor ight
#e a#le to create a portfolio that has an e&pected standard de"iation of /ero.

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.6. 'hich one of the following e"ents would #e included in the e&pected return on Susse&
stock(
). 5he chief financial officer of Susse& une&pectedly resigned.
*. 5he la#or union representing Susse&3 eployees une&pectedly called a strike.
C. 5his orning, Susse& confired that its C,> is retiring at the end of the year as was
anticipated.
+. 5he price of Susse& stock suddenly declined in "alue #ecause researchers accidentally
disco"ered that one of the fir3s products can #e to&ic to household pets.
,. 5he #oard of directors ade an unprecedented decision to gi"e si/ea#le #onuses to the
fir3s internal auditors for their efforts in unco"ering wasteful spending.

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13-69
.%. 'hich one of the following stateents is correct(
). 5he une&pected return is always negati"e.
*. 5he e&pected return inus the une&pected return is e-ual to the total return.
C. >"er tie, the a"erage return is e-ual to the une&pected return.
+. 5he e&pected return includes the surprise portion of news announceents.
E. >"er tie, the a"erage une&pected return will #e /ero.

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&o'ic: /ne)'ected returns

.$. 'hich one of the following stateents related to une&pected returns is correct(
). )ll announceents #y a fir affect that fir3s une&pected returns.
*. ?ne&pected returns o"er tie ha"e a negati"e effect on the total return of a fir.
C. ?ne&pected returns are relati"ely predicta#le in the short-ter.
+. ?ne&pected returns generally cause the actual return to "ary significantly fro the
e&pected return o"er the long-ter.
E. ?ne&pected returns can #e either positi"e or negati"e in the short ter #ut tend to #e /ero
o"er the long-ter.

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&o'ic: /ne)'ected returns

13-62
.9. 'hich one of the following is an e&aple of systeatic risk(
A. in"estors panic causing security prices around the glo#e to fall precipitously
*. a flood washes away a fir3s warehouse
C. a city iposes an additional one percent sales ta& on all products
+. a toyaker has to recall its top-selling toy
,. corn prices increase due to increased deand for alternati"e fuels

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.2. ?nsysteatic risk8
A. can #e effecti"ely eliinated #y portfolio di"ersification.
*. is copensated for #y the risk preiu.
C. is easured #y #eta.
+. is easured #y standard de"iation.
,. is related to the o"erall econoy.

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13-6;
.;. 'hich one of the following is an e&aple of unsysteatic risk(
). incoe ta&es are increased across the #oard
*. a national sales ta& is adopted
C. inflation decreases at the national le"el
+. an increased feeling of prosperity is felt around the glo#e
E. consuer spending on entertainent decreased nationally

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31. 'hich one of the following is least apt to reduce the unsysteatic risk of a portfolio(
A. reducing the nu#er of stocks held in the portfolio
*. adding #onds to a stock portfolio
C. adding international securities into a portfolio of ?.S. stocks
+. adding ?.S. 5reasury #ills to a risky portfolio
,. adding technology stocks to a portfolio of industrial stocks

AACSB: N/A
Difficulty: Basic
Section: "#%0

13-%1
31. 'hich one of the following stateents is correct concerning unsysteatic risk(
). )n in"estor is rewarded for assuing unsysteatic risk.
B. ,liinating unsysteatic risk is the responsi#ility of the indi"idual in"estor.
C. ?nsysteatic risk is rewarded when it e&ceeds the arket le"el of unsysteatic risk.
+. *eta easures the le"el of unsysteatic risk inherent in an indi"idual security.
,. Standard de"iation is a easure of unsysteatic risk.
Refer to sections 13.% and 13.$

AACSB: N/A
Difficulty: Basic
Section: "#%0 and "#%1

3.. 'hich one of the following stateents related to risk is correct(
). 5he #eta of a portfolio ust increase when a stock with a high standard de"iation is added
to the portfolio.
*. ,"ery portfolio that contains .% or ore securities is free of unsysteatic risk.
C. 5he systeatic risk of a portfolio can #e effecti"ely lowered #y adding 5-#ills to the
portfolio.
+. )dding fi"e additional stocks to a di"ersified portfolio will lower the portfolio3s #eta.
,. Stocks that o"e in tande with the o"erall arket ha"e /ero #etas.

AACSB: N/A
Difficulty: Basic
Section: "#%0
&o'ic: 4is.

13-%1
33. 'hich one of the following risks is irrele"ant to a well-di"ersified in"estor(
). systeatic risk
B. unsysteatic risk
C. arket risk
+. nondi"ersifia#le risk
,. systeatic portion of a surprise

AACSB: N/A
Difficulty: Basic
Section: "#%0

36. 'hich of the following are e&aples of di"ersifia#le risk(
<. earth-uake daages an entire town
<<. federal go"ernent iposes a 0111 fee on all #usiness entities
<<<. eployent ta&es increase nationally
<=. toyakers are re-uired to ipro"e their safety standards
). < and <<< only
*. << and <= only
C. << and <<< only
D. < and <= only
,. <, <<<, and <= only

AACSB: N/A
Difficulty: Basic
Learning Obecti!e: "#$* and "#$#
Section: "#%0

13-%.
3%. 'hich of the following stateents are correct concerning di"ersifia#le risks(
<. +i"ersifia#le risks can #e essentially eliinated #y in"esting in thirty unrelated securities.
<<. 5here is no reward for accepting di"ersifia#le risks.
<<<. +i"ersifia#le risks are generally associated with an indi"idual fir or industry.
<=. *eta easures di"ersifia#le risk.
). < and <<< only
*. << and <= only
C. < and <= only
D. <, << and <<< only
,. <, <<, <<<, and <=
Refer to sections 13.% and 13.$

AACSB: N/A
Difficulty: Basic
Section: "#%0 and "#%1

3$. 'hich one of the following is the #est e&aple of a di"ersifia#le risk(
). interest rates increase
*. energy costs increase
C. core inflation increases
D. a fir3s sales decrease
,. ta&es decrease

AACSB: N/A
Difficulty: Basic
Section: "#%0

13-%3
39. 'hich of the following stateents concerning risk are correct(
<. @ondi"ersifia#le risk is easured #y #eta.
<<. 5he risk preiu increases as di"ersifia#le risk increases.
<<<. Systeatic risk is another nae for nondi"ersifia#le risk.
<=. +i"ersifia#le risks are arket risks you cannot a"oid.
A. < and <<< only
*. << and <= only
C. < and << only
+. <<< and <= only
,. <, <<, and <<< only

AACSB: N/A
Difficulty: Basic
Section: "#%0
&o'ic: Systematic and unsystematic ris.

32. 5he priary purpose of portfolio di"ersification is to8
). increase returns and risks.
*. eliinate all risks.
C. eliinate asset-specific risk.
+. eliinate systeatic risk.
,. lower #oth returns and risks.

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Section: "#%0

13-%6
3;. 'hich one of the following indicates a portfolio is #eing effecti"ely di"ersified(
). an increase in the portfolio #eta
*. a decrease in the portfolio #eta
C. an increase in the portfolio rate of return
+. an increase in the portfolio standard de"iation
E. a decrease in the portfolio standard de"iation

AACSB: N/A
Difficulty: Basic
Section: "#%0

61. Aow any di"erse securities are re-uired to eliinate the a7ority of the di"ersifia#le risk
fro a portfolio(
). %
*. 11
C. .%
+. %1
,. 9%

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Section: "#%0

13-%%
61. Systeatic risk is easured #y8
). the ean.
B. #eta.
C. the geoetric a"erage.
+. the standard de"iation.
,. the arithetic a"erage.

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Section: "#%1

6.. 'hich one of the following is ost directly affected #y the le"el of systeatic risk in a
security(
). "ariance of the returns
*. standard de"iation of the returns
C. e&pected rate of return
+. risk-free rate
,. arket risk preiu

AACSB: N/A
Difficulty: Basic
Section: "#%2
&o'ic: CA+6

13-%$
63. 'hich one of the following stateents is correct concerning a portfolio #eta(
). Bortfolio #etas range #etween -1.1 and C1.1.
B. ) portfolio #eta is a weighted a"erage of the #etas of the indi"idual securities contained in
the portfolio.
C. ) portfolio #eta cannot #e coputed fro the #etas of the indi"idual securities coprising
the portfolio #ecause soe risk is eliinated "ia di"ersification.
+. ) portfolio of ?.S. 5reasury #ills will ha"e a #eta of C1.1.
,. 5he #eta of a arket portfolio is e-ual to /ero.

AACSB: N/A
Difficulty: Basic
Section: "#%1
&o'ic: Beta

66. 5he systeatic risk of the arket is easured #y8
A. a #eta of 1.1.
*. a #eta of 1.1.
C. a standard de"iation of 1.1.
+. a standard de"iation of 1.1.
,. a "ariance of 1.1.

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Section: "#%1
&o'ic: Beta

13-%9
6%. )t a iniu, which of the following would you need to know to estiate the aount of
additional reward you will recei"e for purchasing a risky asset instead of a risk-free asset(
<. asset3s standard de"iation
<<. asset3s #eta
<<<. risk-free rate of return
<=. arket risk preiu
). < and <<< only
B. << and <= only
C. <<< and <= only
+. <, <<<, and <= only
,. <, <<, <<<, and <=

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Section: "#%2
&o'ic: CA+6

6$. 5otal risk is easured #y ::::: and systeatic risk is easured #y :::::.
). #etaD alpha
*. #etaD standard de"iation
C. alphaD #eta
D. standard de"iationD #eta
,. standard de"iationD "ariance

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Section: "#%1
&o'ic: 4is. measures

13-%2
69. 5he intercept point of the security arket line is the rate of return which corresponds to8
A. the risk-free rate.
*. the arket rate.
C. a return of /ero.
+. a return of 1.1 percent.
,. the arket risk preiu.

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Section: "#%2

62. ) stock with an actual return that lies a#o"e the security arket line has8
). ore systeatic risk than the o"erall arket.
*. ore risk than that warranted #y C)BM.
C. a higher return than e&pected for the le"el of risk assued.
+. less systeatic risk than the o"erall arket.
,. a return e-ui"alent to the le"el of risk assued.

AACSB: N/A
Difficulty: Basic
Section: "#%2

13-%;
6;. 5he arket rate of return is 11 percent and the risk-free rate of return is 3 percent. Le&ant
stock has 3 percent less systeatic risk than the arket and has an actual return of 1. percent.
5his stock8
A. is underpriced.
*. is correctly priced.
C. will plot #elow the security arket line.
+. will plot on the security arket line.
,. will plot to the right of the o"erall arket on a security arket line graph.

AACSB: N/A
Difficulty: Basic
Section: "#%2

%1. 'hich one of the following will #e constant for all securities if the arket is efficient and
securities are priced fairly(
). "ariance
*. standard de"iation
C. reward-to-risk ratio
+. #eta
,. risk preiu

AACSB: N/A
Difficulty: Basic
Section: "#%2
&o'ic: 4eward$to$ris. ratio

13-$1
%1. 5he reward-to-risk ratio for stock ) is less than the reward-to-risk ratio of stock *. Stock
) has a #eta of 1.2. and stock * has a #eta of 1..;. 5his inforation iplies that8
). stock ) is riskier than stock * and #oth stocks are fairly priced.
*. stock ) is less risky than stock * and #oth stocks are fairly priced.
C. either stock ) is underpriced or stock * is o"erpriced or #oth.
D. either stock ) is o"erpriced or stock * is underpriced or #oth.
,. #oth stock ) and stock * are correctly priced since stock ) is riskier than stock *.

AACSB: N/A
Bloom's: Analysis
Section: "#%2

%.. 5he arket risk preiu is coputed #y8
). adding the risk-free rate of return to the inflation rate.
*. adding the risk-free rate of return to the arket rate of return.
C. su#tracting the risk-free rate of return fro the inflation rate.
D. su#tracting the risk-free rate of return fro the arket rate of return.
,. ultiplying the risk-free rate of return #y a #eta of 1.1.

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Section: "#%2
&o'ic: 6ar.et ris. 'remium

13-$1
%3. 5he e&cess return earned #y an asset that has a #eta of 1.36 o"er that earned #y a risk-free
asset is referred to as the8
). arket risk preiu.
B. risk preiu.
C. systeatic return.
+. total return.
,. real rate of return.

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Section: "#%2
&o'ic: 4is. 'remium

%6. 5he ::::: of a security di"ided #y the #eta of that security is e-ual to the slope of the
security arket line if the security is priced fairly.
). real return
*. actual return
C. noinal return
D. risk preiu
,. e&pected return

AACSB: N/A
Bloom's: Knowledge
Difficulty: Basic
Section: "#%2

13-$.
%%. 5he capital asset pricing odel EC)BMF assues which of the following(
<. a risk-free asset has no systeatic risk.
<<. #eta is a relia#le estiate of total risk.
<<<. the reward-to-risk ratio is constant.
<=. the arket rate of return can #e appro&iated.
). < and <<< only
*. << and <= only
C. <, <<<, and <= only
+. <<, <<<, and <= only
,. <, <<, <<<, and <=

AACSB: N/A
Section: "#%2
&o'ic: CA+6

%$. )ccording to C)BM, the aount of reward an in"estor recei"es for #earing the risk of an
indi"idual security depends upon the8
). aount of total risk assued and the arket risk preiu.
B. arket risk preiu and the aount of systeatic risk inherent in the security.
C. risk free rate, the arket rate of return, and the standard de"iation of the security.
+. #eta of the security and the arket rate of return.
,. standard de"iation of the security and the risk-free rate of return.

AACSB: N/A
Difficulty: Basic
Section: "#%2
&o'ic: 4is. 'remium

13-$3
%9. 'hich one of the following should earn the ost risk preiu #ased on C)BM(
). di"ersified portfolio with returns siilar to the o"erall arket
B. stock with a #eta of 1.32
C. stock with a #eta of 1.96
+. ?.S. 5reasury #ill
,. portfolio with a #eta of 1.11

AACSB: N/A
Difficulty: Basic
Section: "#%2
&o'ic: 4is. 'remium

%2. You want your portfolio #eta to #e 1.;%. Currently, your portfolio consists of 06,111
in"ested in stock ) with a #eta of 1.69 and 03,111 in stock * with a #eta of 1.%6. You ha"e
another 0;,111 to in"est and want to di"ide it #etween an asset with a #eta of 1.96 and a risk-
free asset. Aow uch should you in"est in the risk-free asset(
). 06,31$.12
*. 06,6.%..;
C. 06,;1...;
D. 06,%96.91
,. 06,$23.;.
*etaBortfolio M 1.;% M E06,111N01$,111FE1.69F C E03,111N01$,111FE1.%6F C E&N01$,111FE1.96F C
EE0;,111 - &FN01$,111FE1FD <n"estent in risk-free asset M 0;,111 - 06,6.%..; M 06,%96.91

AACSB: Analytic
Bloom's: A''lication
Difficulty: Basic
&o'ic: +ortfolio beta

13-$6
%;. You ha"e a 01.,111 portfolio which is in"ested in stocks ) and *, and a risk-free asset.
0%,111 is in"ested in stock ). Stock ) has a #eta of 1.9$ and stock * has a #eta of 1.2;. Aow
uch needs to #e in"ested in stock * if you want a portfolio #eta of 1.11(
). 03,9%1.11
*. 06,333.33
C. 06,91$..1
D. 06,;63.2.
,. 0%,61;..9
*etaBortfolio M 1.11 M E0%,111N01.,111FE1.9$F C E&N01.,111FE1.2;F C EE01.,111 - 0%,111 - &FN
01.,111FE1FD & M 06,;63.2.

AACSB: Analytic
Difficulty: Basic
&o'ic: +ortfolio beta

$1. You recently purchased a stock that is e&pected to earn .. percent in a #ooing econoy,
; percent in a noral econoy, and lose 33 percent in a recessionary econoy. 5here is a %
percent pro#a#ility of a #oo and a 9% percent chance of a noral econoy. 'hat is your
e&pected rate of return on this stock(
). -3.61 percent
*. -...% percent
C. 1..% percent
+. ..$1 percent
,. 3.%1 percent
,ErF M E1.1% 1...F C E1.9% 1.1;F C E1..1 -1.33F M 1..% percent

AACSB: Analytic
Difficulty: Basic
Section: "#%"

13-$%
$1. 5he coon stock of Manchester G Moore is e&pected to earn 13 percent in a recession,
$ percent in a noral econoy, and lose 6 percent in a #ooing econoy. 5he pro#a#ility of
a #oo is % percent while the pro#a#ility of a recession is 6% percent. 'hat is the e&pected
rate of return on this stock(
). 2.%. percent
*. 2.96 percent
C. 2.$% percent
+. ;.1% percent
,. ;..2 percent
,ErF M E1.6% 1.13F C E1.%1 1.1$F C E1.1% -1.16F M 2.$% percent

AACSB: Analytic
Difficulty: Basic
Section: "#%"

13-$$
$.. You are coparing stock ) to stock *. !i"en the following inforation, what is the
difference in the e&pected returns of these two securities(

). -1.2% percent
B. 1.;% percent
C. ..1% percent
+. 13.6% percent
,. 13.%% percent
,ErF) M E1.6% 1.16F C E1.%% -1...F M -%.21 percent
,ErF* M E1.6% 1.19F C E1.%% -1..2F M -9.9% percent
+ifference M -%.21 percent - E-9.9% percentF M 1.;% percent

AACSB: Analytic
Difficulty: Basic
Section: "#%"

$3. Herilu Markets has a #eta of 1.1;. 5he risk-free rate of return is ..9% percent and the
arket rate of return is ;.21 percent. 'hat is the risk preiu on this stock(
). $.69 percent
*. 9.13 percent
C. 9.$2 percent
+. 2.;; percent
,. ;.21 percent
Risk preiu M 1.1; E1.1;2 - 1.1.9%F M 9.$2 percent

AACSB: Analytic
Difficulty: Basic
Section: "#%"
&o'ic: 4is. 'remium

13-$9
$6. <f the econoy is noral, Charleston 4reight stock is e&pected to return 1%.9 percent. <f
the econoy falls into a recession, the stock3s return is pro7ected at a negati"e 11.$ percent.
5he pro#a#ility of a noral econoy is 21 percent while the pro#a#ility of a recession is .1
percent. 'hat is the "ariance of the returns on this stock(
). 1.11136$
B. 1.111;.%
C. 1.1136.1
+. 1.113;.9
,. 1.11631%
,ErF M E1.21 1.1%9F C E1..1 -1.11$F M 1.11.6
=ar M 1.21 E1.1%9 - 1.11.6F
.
C 1..1 E-1.11$ - 1.11.6F
.
M 1.111;.%

AACSB: Analytic
Section: "#%"
&o'ic: 7ariance

$%. 5he rate of return on the coon stock of Lancaster 'oolens is e&pected to #e .1 percent
in a #oo econoy, 11 percent in a noral econoy, and only 3 percent in a recessionary
econoy. 5he pro#a#ilities of these econoic states are 11 percent for a #oo, 91 percent for
a noral econoy, and .1 percent for a recession. 'hat is the "ariance of the returns on this
coon stock(
). 1.11.1%1
*. 1.11.$1$
C. 1.11..66
+. 1.11.3%;
,. 1.11.6.1
,ErF M E1.11 1..1F C E1.91 1.11F C E1..1 1.13F M 1.116
=ar M 1.11 E1..1 - 1.116F
.
C 1.91 E1.11 - 1.116F
.
C 1..1 E1.13 - 1.116F
.
M 1.11..66

AACSB: Analytic
Section: "#%"
&o'ic: 7ariance

13-$2
$$. 5he returns on the coon stock of @ew <age Broducts are -uite cyclical. <n a #oo
econoy, the stock is e&pected to return 3. percent in coparison to 16 percent in a noral
econoy and a negati"e .2 percent in a recessionary period. 5he pro#a#ility of a recession is
.% percent while the pro#a#ility of a #oo is 11 percent. 'hat is the standard de"iation of the
returns on this stock(
A. 1;.;6 percent
*. .1.%$ percent
C. .%.23 percent
+. 3..12 percent
,. 3;.99 percent
,ErF M E1.11 1.3.F C E1.$% 1.16F C E1..% -1..2F M 1.1%3
=ar M 1.11 E1.3. - 1.1%3F
.
C 1.$% E1.16 - 1.1%3F
.
C 1..% E-1..2 - 1.1%3F
.
M 1.13;991
Std de" M 1.13;991 M 1;.;6 percent

AACSB: Analytic
Section: "#%"

13-$;
$9. 'hat is the standard de"iation of the returns on a stock gi"en the following inforation(

). 1.%9 percent
B. ..13 percent
C. ..2; percent
+. 3.6. percent
,. 6.11 percent
,ErF M E1.31 1.1%F C E1.$% 1.1.F C E1.1% 1.1$F M 1.1.$
=ar M 1.31 E1.1% - 1.1.$F
.
C 1.$% E1.1. - 1.1.$F
.
C 1.1% E1.1$ - 1.1.$F
.
M 1.111616
Std de" M 1.111616 M ..13 percent

AACSB: Analytic
Section: "#%"

$2. You ha"e a portfolio consisting solely of stock ) and stock *. 5he portfolio has an
e&pected return of 2.9 percent. Stock ) has an e&pected return of 11.6 percent while stock * is
e&pected to return $.6 percent. 'hat is the portfolio weight of stock )(
). 3; percent
B. 6$ percent
C. %6 percent
+. $1 percent
,. $9 percent
1.129 M O1.116 &P C O1.1$6 E1 - &FPD & M 6$ percent

AACSB: Analytic
Difficulty: Basic
Section: "#%*

13-91
$;. You own the following portfolio of stocks. 'hat is the portfolio weight of stock C(

A. 3;.2% percent
*. 6..2$ percent
C. 66.61 percent
+. 62.1; percent
,. %..$% percent
Bortfolio weightC M E$11 012FNOE%11 016F C E.11 0.3F C E$11 012F C E111 069FP M
011,211N0.9,111 M 3;.2% percent

AACSB: Analytic
Difficulty: Basic
Section: "#%*

13-91
91. You own a portfolio with the following e&pected returns gi"en the "arious states of the
econoy. 'hat is the o"erall portfolio e&pected return(

). $.6; percent
*. 2.$6 percent
C. 2.29 percent
D. ;.1% percent
,. ;..3 percent
,ErF M E1..9 1.16F C E1.91 1.12F C E1.13 -1.11F M ;.1% percent

AACSB: Analytic
Difficulty: Basic
Section: "#%*

13-9.
91. 'hat is the e&pected return on a portfolio which is in"ested .% percent in stock ), %%
percent in stock *, and the reainder in stock C(

). -1.1$ percent
*. ..32 percent
C. ..;; percent
D. %.;3 percent
,. $.11 percent
,ErF*oo M E1..% 1.1;F C E1.%% 1.1;F C E1..1 1.1$F M 1.11;
,ErF@oral M E1..% 1.11F C E1.%% 1.12F C E1..1 1.13F M .1;9%
,ErF*ust M E1..% - 1..3F C E1.%% 1.1%F C E1..1 1..%F M 1.1.
,ErFBortfolio M E1.1% 1.11;F C E1.6% 1.1;9%F C E1.%1 1.1.F M %.;3 percent

AACSB: Analytic
Difficulty: Basic
Section: "#%*

13-93
9.. 'hat is the e&pected return on this portfolio(

). 11.62 percent
B. 11.;. percent
C. 13.13 percent
+. 13.6. percent
,. 13.;9 percent
Bortfolio "alue M E311 0.2F C E%11 011F C E$11 013F M 02,611 C 0%,111 C 09,211 M
0.1,.11D ,ErF M E02,611N0.1,.11F E1.1.F C E0%,111N0.1,.11F E1.19F C E09,211N0.1,.11F E1.1%F
M 11.;. percent

AACSB: Analytic
Difficulty: Basic
Section: "#%*

13-96
93. 'hat is the e&pected return on a portfolio that is e-ually weighted #etween stocks I and
L gi"en the following inforation(

A. 11.13 percent
*. 11.2$ percent
C. 1...% percent
+. 13.3. percent
,. 16.61 percent
,ErF M 1..%OE1.1$ C 1.13FN.P C 1.9%OE1.1. C 1.12FN.P M 11.13 percent

AACSB: Analytic
Difficulty: Basic
Section: "#%*

13-9%
96. 'hat is the e&pected return on a portfolio coprised of 0$,.11 of stock M and 06,%11 of
stock @ if the econoy en7oys a #oo period(

). 11.;3 percent
*. 11.1$ percent
C. 1..%% percent
+. 13.92 percent
E. 1%.63 percent
,ErF*oo M O0$,.11NE0$,.11 C 06,%11FPO1..3P C O06,%11NE0$,.11 C 06,%11FP O1.1%P M 1%.63
percent

AACSB: Analytic
Difficulty: Basic
Section: "#%*

13-9$
9%. 'hat is the "ariance of the returns on a portfolio that is in"ested $1 percent in stock S and
61 percent in stock 5(

). .111119
B. .1111.3
C. .111112
+. .11113$
,. .1111$1
,ErF*oo M E1.$1 1.19F C E1.61 1.19F M 1.13
,ErF@oral M E1.$1 1.13F C E1.61 1.11F M 1.112
,ErFBortfolio M E1..1 1.13F C E1.21 1.112F M 1.1.16
=arBortfolio M 1..1 E1.13 - 1.1.16F
.
P C 1.21 E1.112 - 1.1.16F
.
M .1111.3

AACSB: Analytic
Section: "#%*
&o'ic: 7ariance

13-99
9$. 'hat is the "ariance of the returns on a portfolio coprised of 0%,611 of stock ! and
0$,$11 of stock A(

). .11191;
*. .111262
C. .1111;9
+. .111.%6
,. .1116$2
,ErF*oo M O0%,611NE0%,611 C 0$,$11FPO1..1P C OE0$,$11NE0%,611 C 0$,$11FPO1 .13P M 1.1$$
,ErF@oral M O0%,611NE0%,611 C 0$,$11FPO1.13P C O0$,$11NE0%,611 C 0$,$11FPO1.19P M 1.1;9
,ErFBortfolio M E1.3$ 1.1$$F C E1.$6 1.1;9F M 1.1.126
=arBortfolio M O1.3$ E1.1$$ - 1.1.126F
.
P C O1.$6 E1.1;9 - 1.1.126F
.
P M 1.1111;9

AACSB: Analytic
Section: "#%*
&o'ic: 7ariance

13-92
99. 'hat is the standard de"iation of the returns on a portfolio that is in"ested %. percent in
stock J and 62 percent in stock R(

A. 1.$$ percent
*. ..69 percent
C. ..$3 percent
+. 3..2 percent
,. 3.61 percent
,ErF*oo M E1.%. 1.16F C E.1.62 1.1$F M 1.16;$
,ErF@oral M E1.%. 1.12F C E1.62 1.11F M 1.1;66
,ErFBortfolio M E1.11 .1.16;$F C E1.;1 1.1;66F M 1.1;;;.
=arBortfolio M O1.11 E1.16;$ - 1.1;;;.F
.
P C O1.;1 E1.1;66 - 1.1;;;.F
.
P M 1.111.96
Std de" M 1.111.96 M 1.$$ percent

AACSB: Analytic
Section: "#%*

13-9;
92. 'hat is the standard de"iation of the returns on a 031,111 portfolio which consists of
stocks S and 5( Stock S is "alued at 01.,111.

). 1.19 percent
B. 1... percent
C. 1.3$ percent
+. 1.6; percent
,. 1.$3 percent
,ErF*oo M O01.,111N031,111P O1.11P C OE031,111 - 01.,111FN031,111P O1.1%P M 1.196
,ErF@oral M O01.,111N031,111P O1.12P C OE031,111 - 01.,111FN031,111P O1.1$P M 1.1$2
,ErF*ust M O01.,111N031,111P O-1.1%P C OE031,111 - 01.,111FN031,111P O1.12P M 1.1.2
,ErFBortfolio M E1.1% 1.196F C E1.2% 1.1$2F C E1.11 1.1.2F M 1.1$63
=arBortfolio M O1.1% E1.196 - 1.1$63F
.
P C O1.2% E1.1$2 - 1.1$63F
.
P C O1.11 E1.1.2 - 1.1$63F
.
P
M .111162111
Std de" M 1.111162111 M 1... percent

AACSB: Analytic
Section: "#%*

13-21
9;. 'hat is the standard de"iation of the returns on a portfolio that is in"ested in stocks ), *,
and C( 5wenty fi"e percent of the portfolio is in"ested in stock ) and 61 percent is in"ested in
stock C.

). $.31 percent
*. $.6; percent
C. 9.61 percent
D. 9.23 percent
,. 2.9. percent
,ErF*oo M E1..% 1.19F C E1.3% 1.1$F C E1.61 1...F M 1.1%1%
,ErF@oral M E1..% 1.12F C E1.3% 1.11F C E1.61 1.1%F M 1.11%
,ErF*ust M E1..% -1.13F C E1.3% 1.1;F C E1.61 -1..%F M -1.161
,ErFBortfolio M E1.1% 1.1%1%F C E1.%% 1.11%F C E1.61 -1.161F M 1.1%66.%
=arBortfolio M O1.1% E1.1%1% - 1.1%66.%F
.
P C O1.%% E1.11% - 1.1%66.%F
.
P C O1.61 E-1.161 -
1.1%66.%F
.
P M 1.11$13.
Std de" M .11$13. M 9.23 percent

AACSB: Analytic
Section: "#%*

13-21
21. 'hat is the #eta of the following portfolio(

). 1.16
*. 1.19
C. 1.13
D. 1.1$
,. 1..3
=alueBortfolio M 0$,911 C 06,;11 C 02,%11 M 0.1,111
*etaBortfolio M E0$,911N0.1,111 1.%2F C E06,;11N0.1,111 1..3F C E02,%11N0.1,111 1.9;F M
1.1$

AACSB: Analytic
Difficulty: Basic
Section: "#%1
&o'ic: Beta

21. Your portfolio is coprised of 61 percent of stock K, 1% percent of stock Y, and 6%
percent of stock L. Stock K has a #eta of 1.1$, stock Y has a #eta of 1.69, and stock L has a
#eta of 1.6.. 'hat is the #eta of your portfolio(
A. 1.29
*. 1.1;
C. 1.13
+. 1.12
,. 1..1
*etaBortfolio M E1.61 1.1$F C E1.1% 1.69F C E1.6% 1.6.F M 1.29

AACSB: Analytic
Difficulty: Basic
Section: "#%1
&o'ic: Beta

13-2.
2.. Your portfolio has a #eta of 1.1.. 5he portfolio consists of .1 percent ?.S. 5reasury #ills,
%1 percent stock ), and 31 percent stock *. Stock ) has a risk-le"el e-ui"alent to that of the
o"erall arket. 'hat is the #eta of stock *(
). 1.69
*. 1.%.
C. 1.$;
+. 1.26
E. ..19
*etaBortfolio M 1.1. M E1.. 1F C E1.% 1F C E1.3 *FD * M ..19
5he #eta of a risk-free asset is /ero. 5he #eta of the arket is 1.1.

AACSB: Analytic
Difficulty: Basic
Section: "#%1
&o'ic: Beta

23. You would like to co#ine a risky stock with a #eta of 1.$2 with ?.S. 5reasury #ills in
such a way that the risk le"el of the portfolio is e-ui"alent to the risk le"el of the o"erall
arket. 'hat percentage of the portfolio should #e in"ested in the risky stock(
). 3. percent
*. 61 percent
C. %6 percent
D. $1 percent
,. $2 percent
*etaBortfolio M 1.1 M OE&F 1.$2P C OE1 - &F 1PD & M $1 percent

AACSB: Analytic
Difficulty: Basic
Section: "#%1
&o'ic: Beta

13-23
26. 5he arket has an e&pected rate of return of 11.9 percent. 5he long-ter go"ernent
#ond is e&pected to yield %.2 percent and the ?.S. 5reasury #ill is e&pected to yield 3.;
percent. 5he inflation rate is 3.$ percent. 'hat is the arket risk preiu(
). $.1 percent
B. $.2 percent
C. 9.% percent
+. 2.% percent
,. ;.3 percent
Market risk preiu M 11.9 percent - 3.; percent M $.2 percent

AACSB: Analytic
Difficulty: Basic
Section: "#%2
&o'ic: 4is. 'remium

2%. 5he risk-free rate of return is 3.; percent and the arket risk preiu is $.. percent.
'hat is the e&pected rate of return on a stock with a #eta of 1..1(
). 11.;. percent
B. 11.61 percent
C. 1.... percent
+. 1..69 percent
,. 1..9; percent
,ErF M 1.13; C E1..1 1.1$.F M 11.61 percent

AACSB: Analytic
Difficulty: Basic
Section: "#%2
&o'ic: CA+6

13-26
2$. 5he coon stock of Hensen Shipping has an e&pected return of 1$.3 percent. 5he return
on the arket is 11.2 percent and the risk-free rate of return is 3.2 percent. 'hat is the #eta of
this stock(
). .;.
*. 1..3
C. 1.33
+. 1.$9
E. 1.9;
,ErF M 1.1$3 M 1.132 C E1.112 - 1.132FD M 1.9;

AACSB: Analytic
Difficulty: Basic
Section: "#%2
&o'ic: CA+6

29. 5he coon stock of ?nited <ndustries has a #eta of 1.36 and an e&pected return of 16..;
percent. 5he risk-free rate of return is 3.9 percent. 'hat is the e&pected arket risk
preiu(
). 9.1. percent
B. 9.;1 percent
C. 11.$3 percent
+. 11... percent
,. 11.$1 percent
,ErF M 1.16.; M 1.139 C 1.36 MrpD Mrp M 9.;1 percent

AACSB: Analytic
Difficulty: Basic
Section: "#%2
&o'ic: CA+6

13-2%
22. 5he e&pected return on HI stock is 1%.92 percent while the e&pected return on the arket
is 11.36 percent. 5he stock3s #eta is 1.$.. 'hat is the risk-free rate of return(
). 3... percent
*. 3.%; percent
C. 3.$3 percent
+. 3.9; percent
E. 6.12 percent
,ErF M 1.1%92 M rf C 1.$. E1.1136 - rfFD rf M 6.12 percent

AACSB: Analytic
Difficulty: Basic
Section: "#%2
&o'ic: CA+6

2;. 5hayer 4ars stock has a #eta of 1.1.. 5he risk-free rate of return is 6.36 percent and the
arket risk preiu is 9.;. percent. 'hat is the e&pected rate of return on this stock(
). 2.3% percent
*. ;.11 percent
C. 11..3 percent
D. 13..1 percent
,. 13.93 percent
,ErF M 1.1636 C E1.1. 1.19;.F M 13..1 percent

AACSB: Analytic
Difficulty: Basic
Section: "#%2
&o'ic: CA+6

13-2$
;1. 5he coon stock of )lpha Manufacturers has a #eta of 1.69 and an actual e&pected
return of 1%..$ percent. 5he risk-free rate of return is 6.3 percent and the arket rate of return
is 1..11 percent. 'hich one of the following stateents is true gi"en this inforation(
). 5he actual e&pected stock return will graph a#o"e the Security Market Line.
*. 5he stock is underpriced.
C. 5o #e correctly priced according to C)BM, the stock should ha"e an e&pected return of
.1.;% percent.
+. 5he stock has less systeatic risk than the o"erall arket.
E. 5he actual e&pected stock return indicates the stock is currently o"erpriced.
,ErF M 1.163 C 1.69 E1.1.11 - 1.163F M 1%.$3 percent
5he stock is o"erpriced #ecause its actual e&pected return is less than the C)BM return.

AACSB: Analytic
Difficulty: Basic
Section: "#%2
&o'ic: CA+6

13-29
;1. 'hich one of the following stocks is correctly priced if the risk-free rate of return is 3.9
percent and the arket risk preiu is 2.2 percent(

). )
*. *
C. C
+. +
,. ,
,ErF) M 1.139 C E1.$6 1.122F M 1.1;33
,ErF* M 1.139 C E1.;9 1.122F M 1.1..6
,ErFC M 1.139 C E1... 1.122F M 1.1666 Stock C is correctly priced.
,ErF+ M 1.139 C E1.39 1.122F M 1.1%9$
,ErF, M 1.139 C E1.$2 1.122F M 1.1262

AACSB: Analytic
Difficulty: Basic
Section: "#%2
&o'ic: CA+6

13-22
;.. 'hich one of the following stocks is correctly priced if the risk-free rate of return is 3..
percent and the arket rate of return is 11.9$ percent(

). )
*. *
C. C
+. +
E. ,
,ErF) M 1.13. C O1.29 E1.119$ - 1.13.FP M 1.11$%
,ErF* M 1.13. C O1.1; E1.119$ - 1.13.FP M 1.1.%3
,ErFC M 1.13. C O1.12 E1.119$ - 1.13.FP M 1.1331
,ErF+ M 1.13. C O1.36 E1.119$ - 1.13.FP M 1.16$9
,ErF, M 1.13. C O1.$. E1.119$ - 1.13.FP M 1.1919 Stock , is correctly priced.

AACSB: Analytic
Difficulty: Basic
Section: "#%2
&o'ic: CA+6

Essay Questions

13-2;
;3. )ccording to C)BM, the e&pected return on a risky asset depends on three coponents.
+escri#e each coponent and e&plain its role in deterining e&pected return.
C)BM suggests the e&pected return is a function of E1F the risk-free rate of return, which is
the pure tie "alue of oney, E.F the arket risk preiu, which is the reward for #earing
systeatic risk, and E3F #eta, which is the aount of systeatic risk present in a particular
asset. *etter answers will point out that #oth the pure tie "alue of oney and the reward for
#earing systeatic risk are e&ogenously deterined and can change on a daily #asis, while the
aount of systeatic risk for a particular asset is deterined #y the fir3s decision-akers.
4eed#ack8 Refer to section 13.9

AACSB: 4eflecti!e t,in.ing
Bloom's: Analysis
Section: "#%2
&o'ic: CA+6

;6. ,&plain how the slope of the security arket line is deterined and why e"ery stock that
is correctly priced, according to C)BM, will lie on this line.
5he arket risk preiu is the slope of the security arket line. Slope is the rise o"er the
run, which in this case is the difference #etween the arket return and the risk-free rate
di"ided #y a #eta of 1.1 inus a #eta of /ero. <f a stock is correctly priced the reward-to-risk
ratio will #e constant and e-ual to the slope of the security arket line. 5hus, e"ery stock that
is correctly priced will lie on the security arket line.

Bloom's: Analysis
Section: "#%2

13-;1
;%. ,&plain how the #eta of a portfolio can e-ual the arket #eta if %1 percent of the portfolio
is in"ested in a security that has twice the aount of systeatic risk as an a"erage risky
security.
)n a"erage risky security has a #eta of 1.1, which is the arket #eta. Risk-free securities, i.e.,
?.S. 5reasury #ills, ha"e a #eta of /ero. ) portfolio that is in"ested %1 percent in a security
that has a #eta of ..1 Etwice the systeatic risk as an a"erage risky securityF and %1 percent in
risk-free securities E?.S. 5reasury #illsF will ha"e a #eta of 1.1 Ewhich is the arket #etaF.

Bloom's: Analysis
Section: "#%2
&o'ic: Beta

;$. ,&plain the difference #etween systeatic and unsysteatic risk. )lso e&plain why one of
these types of risks is rewarded with a risk preiu while the other type is not.
?nsysteatic, or di"ersifia#le, risk affects a liited nu#er of securities and can #e
eliinated #y in"esting in securities fro "arious industries and geographic regions.
?nsysteatic risk is not rewarded since it can #e eliinated #y in"estors. Systeatic risk is
risk which affects ost, or all, securities and cannot #e di"ersified away. Since systeatic risk
ust #e accepted #y in"estors it is rewarded with a risk preiu and is easured #y #eta.
4eed#ack8 Refer to section 13.%

Bloom's: Analysis
Section: "#%0

13-;1
;9. ) portfolio #eta is a weighted a"erage of the #etas of the indi"idual securities which
coprise the portfolio. Aowe"er, the standard de"iation is not a weighted a"erage of the
standard de"iations of the indi"idual securities which coprise the portfolio. ,&plain why this
difference e&ists.
Standard de"iation easures total risk. 5he unsysteatic portion of the total risk can #e
eliinated #y di"ersification. 5herefore, the total risk of a di"ersified portfolio is less than the
total risk of the coponent parts. *eta, on the other hand, easures systeatic risk, which
cannot #e eliinated #y di"ersification. 5hus, the systeatic risk of a portfolio is the
suation of the systeatic risk of the coponent parts.
4eed#ack8 Refer to section 13.%

Bloom's: Analysis
Section: "#%0


;2. You own a portfolio that has 0.,111 in"ested in Stock ) and 01,611 in"ested in Stock *.
5he e&pected returns on these stocks are 16 percent and ; percent, respecti"ely. 'hat is the
e&pected return on the portfolio(
). 11.1$ percent
*. 11.%1 percent
C. 11.;6 percent
+. 1..13 percent
,. 1..61 percent
,ERpF M O0.,111NE0.,111 C 01,611FP O1.16P C O01,611NE0.,111 C 01,611FP O1.1;P M 11.;6
percent

AACSB: Analytic
Difficulty: Basic
(OC 8: "#$*
Section: "#%"

13-;.
;;. You ha"e 011,111 to in"est in a stock portfolio. Your choices are Stock K with an
e&pected return of 13 percent and Stock Y with an e&pected return of 2 percent. Your goal is
to create a portfolio with an e&pected return of 1..6 percent. )ll oney ust #e in"ested.
Aow uch will you in"est in stock K(
). 0211
*. 01,.11
C. 06,$11
D. 02,211
,. 0;,.11
,ERpF M 1.1.6 M .13& C .12E1 - &FD & M 22 percent
<n"estent in Stock K M 1.22E011,111F M 02,211

AACSB: Analytic
Difficulty: Basic
(OC 8:"#$-
Section: "#%*

13-;3
111. 'hat is the e&pected return and standard de"iation for the following stock(

). 1%.6; percentD 16..2 percent
*. 1%.6; percentD 16.$9 percent
C. 19.11 percentD 1%..6 percent
+. 19.11 percentD 1%.96 percent
,. 19.11 percent3D 1$.11 percent
,ERF M 1.11E-1.1;F C 1.$1E1.16F C 1.31E1.3%F M 19.11 percent
.
M 1.11E-1.1; - 1.19F
.
C 1.$1E1.16 - 1.19F
.
C 1.31E1.3% - 1.19F
.
M 1.1.3..
M 1.1.3.. M 1%..6 percent

AACSB: Analytic
Difficulty: Basic
(OC 8: "#$2
Section: "#%*

13-;6
111. 'hat is the e&pected return of an e-ually weighted portfolio coprised of the following
three stocks(

). 1$.33 percent
B. 12.$1 percent
C. 1;.$9 percent
+. .1.62 percent
,. .1.33 percent
,ERpF*oo M E1.1; C 1.13 C 1.31FN3 M 1..1
,ERpF*ust M E1.1% C 1.11 C 1.19FN3 M 1.1633
,ERpF M 1.$6E1..1F C 1.3$E1.1633F M 12.$1 percent

AACSB: Analytic
Difficulty: Basic
(OC 8: "#$9
Section: "#%*

13-;%
11.. Your portfolio is in"ested .$ percent each in Stocks ) and C, and 62 percent in Stock *.
'hat is the standard de"iation of your portfolio gi"en the following inforation(

). 1..32 percent
*. 1..$6 percent
C. 1..9. percent
+. 1..2; percent
E. 13.93 percent
,ERpF*oo M 1..$E1..%F C 1.62E1..%F C 1..$E1.6%F M 1.31.
,ERpF!ood M 1..$E1.11F C 1.62E1.13F C 1..$E1.11F M 1.119
,ERpFBoor M 1..$E1.13F C 1.62E1.1%F C 1..$E1.1%F M 1.1662
,ERpF*ust M 1..$E-1.16F C 1.62E-1.1;F C 1..$E-1.1;F M -1.199
,ERpF M 1..%E1.31.F C 1..%E1.119F C 1..%E1.1662F C 1..%E-1.199F M 1.1;$9
p
.
M 1..%E1.31. - 1.1;$9F
.
C 1..%E1.119 - 1.1;$9F
.
C 1..%E1.1662 - 1.1;$9F
.
C 1..%E-1.199 -
1.1;$9F
.
M 1.1122%$
p M 1.1122%$ M 13.93 percent

AACSB: Analytic
Difficulty: Basic
(OC 8: "#$":
Section: "#%*

13-;$
113. You own a portfolio e-ually in"ested in a risk-free asset and two stocks. >ne of the
stocks has a #eta of 1.; and the total portfolio is e-ually as risky as the arket. 'hat is the
#eta of the second stock(
). 1.9%
*. 1.21
C. 1.;6
+. 1.11
E. 1.11
p M 1.1 M E1N3FE1F C E1N3FE&F C E1N3FE1.;FD & M 1.1

AACSB: Analytic
Difficulty: Basic
(OC 8: "#$"*
Section: "#%1
&o'ic: Beta

116. ) stock has an e&pected return of 11 percent, the risk-free rate is $.1 percent, and the
arket risk preiu is 6 percent. 'hat is the stock3s #eta(
). 1.12
B. 1..3
C. 1..;
+. 1.3.
,. 1.3%
,ERiF M 1.11 M 1.$1 C iE1.16FD i M 1..3

AACSB: Analytic
Bloom's: Analysis
Difficulty: Basic
(OC 8: "#$"-
Section: "#%2
&o'ic: CA+6

13-;9
11%. ) stock has a #eta of 1.. and an e&pected return of 19 percent. ) risk-free asset currently
earns %.1 percent. 5he #eta of a portfolio coprised of these two assets is 1.2%. 'hat
percentage of the portfolio is in"ested in the stock(
A. 91 percent
*. 99 percent
C. 26 percent
+. 2; percent
,. ;. percent
p M 1.2% M 1..& C E1 -&FE1FD *p M 91 percent

AACSB: Analytic
Difficulty: Basic
(OC 8: "#$"2
Section: "#%2
&o'ic: CA+6

13-;2
11$. Consider the following inforation on three stocks8

) portfolio is in"ested 3% percent each in Stock ) and Stock * and 31 percent in Stock C.
'hat is the e&pected risk preiu on the portfolio if the e&pected 5-#ill rate is 3.2 percent(
). 11.69 percent
*. 1..32 percent
C. 1$.$9 percent
+. .6..; percent
E. .;.;; percent
,ERpF*oo M 1.3%E1.%%F C 1.3%E1.3%F C 1.31E1.$%F M 1.%1
,ERpF@oral M 1.3%E1.66F C 1.3%E1.12F C 1.31E1.16F M 1...;
,ERpF*ust M 1.3%E1.39F C 1.3%E-1.19F C 1.31E-1.$6F M -1.1..
,ERpF M 1.6%E1.%1F C 1.%1E1...;F C 1.1%E-1.1..F M 1.339;
RBi M 1.339; - 1.132 M .;.;; percent

AACSB: Analytic
(OC 8: "#$*#
Section: "#%"
&o'ic: +ortfolio ris. 'remium

13-;;
119. Suppose you o#ser"e the following situation8

)ssue these securities are correctly priced. *ased on the C)BM, what is the return on the
arket(
). 13.;; percent
*. 16.6. percent
C. 16.$9 percent
+. 16.92 percent
,. 1%.11 percent
Rf 8 E1.1. - RfFN1.2 M E1.1$ - RfFN1.1D Rf M 1.33 percent
RM8 1.1. M 1.1133 C 1.2ERM - 1.1133FD RM M 16.$9 percent

AACSB: Analytic
(OC 8: "#$*2
Section: "#%2
&o'ic: CA+6

13-111
112. Consider the following inforation on Stocks < and <<8

5he arket risk preiu is 2 percent, and the risk-free rate is 3.$ percent. 5he #eta of stock <
is ::::: and the #eta of stock << is :::::.
). ..12D ..69
*. ..12D ..9$
C. 3..1D 3.26
+. 6.69D 3.2;
E. 6.69D 6..$
,ER<F M 1.1$E1.1%F C 1..%E1.3%F C 1.$;E1.63F M 1.3;3.
*<8 1.3;3. M 1.13$ C *< E1.12FD *< M 6.69
,ER<<F M 1.1$E-1.3%F C 1..%E1.3%F C 1.$;E1.6%F M 1.1399
*<<8 1.1399 M 1.13$ C *<< E1.12FD *<< M 6..$

AACSB: Analytic
Bloom's: Analysis
(OC 8: "#$*1
Section: "#%2
&o'ic: CA+6

13-111
11;. Suppose you o#ser"e the following situation8

)ssue the capital asset pricing odel holds and stock )3s #eta is greater than stock *3s #eta
#y 1..1. 'hat is the e&pected arket risk preiu(
). 2.2 percent
*. ;.% percent
C. 1..$ percent
+. 19.; percent
E. .1.1 percent
,ER)F M 1...E-1.1.F C 1.62E1.11F C 1.31E1..3F M .1;1$
,ER*F M 1...E-1..9F C 1.62E1.1%F C 1.31E1..2F M .162$
SlopeSML M E.1;1$ - 1.62$FN1..1 M .1 percent

AACSB: Analytic
Bloom's: Analysis
(OC 8: "#$*3
Section: "#%2

13-11.

Chapter 13 - Return, Risk, and The Security Market Line

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