Mock test (week 6 Tutorial)

Select the most appropriate answer Time 45 – 60 minutes

1. Most favourable portfolio is a portfolio with the same return and

A. lowest risk
B. highest risk
C. highest utility
D. least investment
E. No answer

2. The expected return is determined by:

A. probabilities.
B. rates of return on an asset.
C. correlations.
D. both the first and second answer.
E. the first, second and third answer.

3. Which of the following statements about the mean-variance criterion is correct?

A. Investors select assets that provide the highest rate of return.
B. Investors select assets that provide the lowest variance for the same or higher
expected return.
C. The risk premium is zero.
D. The mean return equals the riskless interest.
E. Investors select assets that provide the highest variance for the same or higher
expected return.
4. Asset allocation refers to ____________.
A. Choosing which securities to hold based on their valuation
B. Investing only in "safe" securities
C. The allocation of assets into broad asset classes
D. Bottom-up analysis
E. All of the above
5.Which of the following statements regarding risk-averse investors is true?

A. They only accept risky investments that offer risk premiums over the risk-free rate.
B. They accept investments that are fair games.
C. They only care about rate of return.
D. They are willing to accept lower returns and high risk.
E. A and B.

6. Which statement about portfolio diversification is correct?

A. Proper diversification can reduce or eliminate systematic risk.

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 B. The risk-reducing benefits of diversification do not occur meaningfully until at
least 50-60 individual securities have been purchased.
C. Because diversification reduces a portfolio's total risk, it necessarily reduces the
portfolio's expected return.
D. Typically, as more securities are added to a portfolio, total risk would be expected
to decrease at a decreasing rate.
E. None of the above statements are correct.
7. When an investment opportunity set is formed with two securities that are perfectly
negatively correlated, the global minimum variance portfolio has a standard deviation
that is always.....
A. Equal to zero.
B. Greater than zero.
C. Equal to the sum of the securities' standard deviations
D. Equal to -1.
E. None of the above
8. An investor who wishes to form a portfolio that lies to the right of the optimal risky
portfolio on the Capital Allocation Line must....

A. Lend some of her money at the risk-free rate and invest the remainder in the
optimal risky portfolio.
B. Borrow some money at the risk-free rate and invest in the optimal risky
portfolio.
C. Such a portfolio cannot be formed
D. Invest only in risky securities.
E. B and D

9.According to the Capital Asset Pricing Model (CAPM), the expected rate of return on
any security is equal to

A. Rf + β [E(RM)].
B. Rf + β [E(RM) – Rf].
C. β [E(RM) – Rf].
D. E(RM) + Rf.
E. None of the above.

10. The market risk, beta, of a security is equal to

A. The covariance between the security's return and the market return divided by
the variance of the market's returns.
B. The covariance between the security and market returns divided by the
standard deviation of the market's returns.
C. The variance of the security's returns divided by the covariance between the
security and market returns
D. The variance of the security's returns divided by the variance of the market's
returns.
E. None of the above.

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11. The risk-free rate is 7 percent. The expected market rate of return is 15 percent. If
you expect a stock with a beta of 1.3 to offer a rate of return of 12 percent, you should
A. Buy the stock because it is overpriced.
B. Sell short the stock because it is overpriced.
C. Sell the stock short because it is underpriced.
D. Buy the stock because it is underpriced.
E. None of the above, as the stock is fairly priced.

12. In a well-diversified portfolio

A. Market risk is negligible.
B. Unsystematic risk is negligible.
C. Systematic risk is negligible.
D. Non-diversifiable risk is negligible.
E. None of the above

13. A zero-investment portfolio with a positive expected return arises when

A. An investor has downside risk only.
B. The opportunity set is not tangent to the capital allocation line.
C. A risk-free arbitrage opportunity exists.
D. The law of prices is not violated.
E. None of the above

14. The APT differs from the CAPM because the APT...
A. Places more emphasis on market risk.
B. Recognizes multiple systematic risk factors.
C. Recognizes multiple unsystematic risk factors.
D. Minimizes the importance of diversification.
E. All of the above

15. Consider a well-diversified portfolio, A, in a two-factor economy. The risk-free

rate is 6%, the risk premium on the first factor portfolio is 4% and the risk premium
on the second factor portfolio is 3%. If portfolio A has a beta of 1.2 on the first factor
and.8 on the second factor, what is its expected return?
A. 7.0%
B. 8.0%
C. 9.2%
D. 13.0%
E. 13.2%

16. A linear relationship between a security’s expected return and beta risk is known
as:
A. Full replication.
B. The unsystematic risk of a security.
C. An efficient frontier line.
D. The security market line.
E. No answer

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 17. The beta of an active portfolio is 1.20. The standard deviation of the returns on
the market index is 20%. The nonsystematic variance of the active portfolio is 1%.
The standard deviation of the returns on the active portfolio is __________.
A) 3.84%
B) 5.84%
C) 19.60%
D) 24.17%
E) 26.0%

18. Suppose two portfolios have the same average return, the same standard deviation of
returns, but Aggie Fund has a higher beta than Raider Fund. According to the Sharpe
measure, the performance of Aggie Fund

A. is better than the performance of Raider Fund.

B. is the same as the performance of Raider Fund.
C. is poorer than the performance of Raider Fund.
D. cannot be measured as there is no data on the alpha of the portfolio.
E. None of these is correct.
19. Which of the following statements are correlation coefficient is false?

A. The values range between -1 to +1.

B. A value of +1 implies that the returns for the two stocks move together in a
completely linear manner.
C. A value of -1 implies that the returns move in a completely opposite direction.
D. A value of zero means that the returns are zero.
E. None of the above (that is, all statements are true).

20. The Capital Allocation Line can be described as the

A. investment opportunity set formed with a risky asset and a risk-free asset.
B. investment opportunity set formed with two risky assets.
C. line on which lie all portfolios that offer the same utility to a particular investor.
D. line on which lie all portfolios with the same expected rate of return and different
standard deviations.
E. investment opportunity set formed with multiple risky assets.

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 21. The portfolios identified below are being considered for investment. During the period under
consideration, Rf = .03.

Portfolio Return Beta std

A 0.16 1.0 0.15
B 0.22 1.5 0.10
C 0.11 0.6 0.08
D 0.18 1.1 0.12

According to the Treynor Measure, which portfolio performed best?

a. A
b. B
c. C
d. D
e. Two portfolios are tied

USE THE INFORMATION BELOW FOR THE FOLLOWING PROBLEM(S)

Asset (A) Asset (B)

E(R)A = 10% E(R)B = 15%
(STDA) = 8% (STDB) = 9.5%
WA = 0.25 WB = 0.75
CovA,B = 0.006

22. What is the standard deviation of this portfolio?

a. 8.79%
b. 13.75%
c. 12.5%
d. 7.72%
e. 5.64%

Stocks A and B have a correlation coefficient of -0.8. The stocks' expected returns and
standard deviations are in the table below. A portfolio consisting of 40% of stock A and 60%
of stock B is constructed.

Stock Expected Return Standard Deviation

A 20% 25%
B 15% 19%

23. What percentage of stock A should be invested to obtain the minimum risk
portfolio that contains stock A and B?
a. 35%
b. 42%
c. 58%
d. 65%
e. 72%

24. When identifying undervalued and overvalued assets, which of the following
statements is FALSE?
a. An asset is properly valued if its estimated rate of return is equal to its
required rate of return.
b. An asset is considered overvalued if its estimated rate of return is below its
required rate of return.
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 c. An asset is considered undervalued if its estimated rate of return is above its
required rate of return.
d. An asset is considered overvalued if its required rate of return is below its
estimated rate of return.
e. An asset is considered undervalued if its estimated rate of return is equal to its
required rate of return.

25. Net asset value (NAV) is determined by

a. the total market value of all its assets multiplied by the number of fund shares
outstanding.
b. the total market value of all its assets divided by the number of fund shares
outstanding.
c. the total market value of all its assets divided by the number of shareholders.
d. supply and demand for the investment company stock in the secondary market.
e. supply and demand for the investment company stock in the primary market.

26. The portfolios identified below are being considered for investment. During
the period under consideration, Rf = .03.

Portfolio Return Beta std

A 0.16 1.0 0.15
B 0.22 1.5 0.10
C 0.11 0.6 0.08
D 0.18 1.1 0.12

According to the Treynor Measure, which portfolio performed best?

a. A
b. B
c. C
d. D
e. Two portfolios are tied
ANSWER: d

The data presented below has been collected at this point in time.
Standard
Fund Beta Deviation (%) Return (%) Rf (%)
AAA 1.05 4.98 16 6
BBB 1.00 4.04 15 6
CCC 0.92 3.13 11 6
Market 1.00 3.75 13 6

27. Compute the Jensen Measure for the BBB fund.

a. 2.10
b. 2.74
c. 5.43
d. 2.00
e. 1.65
ANSWER: d

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28. Compute the Treynor Measure for the CCC fund.
a. 5.43
b. 2.74
c. 2.19
d. 2.00
e. 1.65
ANSWER: a

29. The correlation coefficient covariance between the market return and a risk-
free asset would
a. be +¥.
b. be -¥.
c. be +1.
d. be -1.
e. be zero.
ANSWER: e

USE THE INFORMATION BELOW FOR THE FOLLOWING PROBLEM(S)

Asset (A) Asset (B)

E(R)A = 10% E(R)B = 15%
(STDA) = 8% (STDB) = 9.5%
WA = 0.25 WB = 0.75
CovA,B = 0.006

30. What is the standard deviation of this portfolio?

a. 8.79%
b. 13.75%
c. 12.5%
d. 7.72%
e. 5.64%
ANSWER: a

31. A completely diversified portfolio would have a correlation with the market
portfolio that is
a. equal to zero because it has only unsystematic risk.
b. equal to one because it has only systematic risk.
c. less than zero because it has only systematic risk.
d. less than one because it has only unsystematic risk.
e. less than one because it has only systematic risk.
ANSWER: b

USE THE INFORMATION BELOW FOR THE FOLLOWING PROBLEM(S)

Asset 1 Asset 2
E(R1) = .12 E(R2) = .16
E(STD1) = .04E(STD2) = .06

32. Calculate the expected return and expected standard deviation of a two-stock
portfolio when r1,2 = -.60 and w1 = .75.

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 a. .13 and .0024
b. .13 and .0455
c. .12 and .0585
d. .12 and .5585
e. .13 and .6758
ANSWER: a

33. Calculate the expected returns and expected standard deviations of a two-stock
portfolio when r1,2 = .80 and w1 = .60.
a. .144 and .0002
b. .144 and .0018
c. .136 and .0045
d. .136 and .0455
e. .136 and .4554
ANSWER: d

Stocks A and B have a correlation coefficient of -0.8. The stocks' expected returns
and standard deviations are in the table below. A portfolio consisting of 40% of
stock A and 60% of stock B is constructed.

Stock Expected Return Standard Deviation

A 20% 25%
B 15% 19%

34. What percentage of stock A should be invested to obtain the minimum risk
portfolio that contains stock A and B?
a. 35%
b. 42%
c. 58%
d. 65%
e. 72%
ANSWER: b

35. When identifying undervalued and overvalued assets, which of the following
statements is FALSE?
a. An asset is properly valued if its estimated rate of return is equal to
its required rate of return.
b. An asset is considered overvalued if its estimated rate of return is
below its required rate of return.
c. An asset is considered undervalued if its estimated rate of return is
above its required rate of return.
d. An asset is considered overvalued if its required rate of return is
below its estimated rate of return.
e. An asset is considered undervalued if its estimated rate of return is
equal to its required rate of return.
ANSWER: d

END OF QUESTION