Chapter 5: Risk and Return MCQs solved

Multiple-Choice Quiz

Chapter 5:   Risk and Return

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1. This type of risk is avoidable through proper diversification.

portfolio risk

systematic risk

unsystematic risk

total risk

2. A statistical measure of the degree to which two variables (e.g., securities' returns) move together.

coefficient of variation

variance

covariance

certainty equivalent

3. An "aggressive" common stock would have a "beta"

equal to zero.

greater than one.

equal to one.

less than one.

4. A line that describes the relationship between an individual security's returns and returns on the market portfolio.

characteristic line

security market line

capital market line

beta

5. According to the capital-asset pricing model (CAPM), a security's expected (required) return is equal to the risk-free rate plus a premium

equal to the security's beta.

based on the unsystematic risk of the security.

based on the total risk of the security.

based on the systematic risk of the security.

6. The risk-free security has a beta equal to                     , while the market portfolio's beta is equal to                      .

one; more than one.

one; less than one.

zero; one.

less than zero; more than zero.

7. Carrie has a "certainty equivalent" to a risky gamble's expected value that is less than the gamble's expected value. Carrie shows

risk aversion.

risk preference.

risk indifference.

a strange outlook on life.

8. Beta is the slope of

the security market line.

the capital market line.

a characteristic line.

the CAPM.

9. A measure of "risk per unit of expected return."

standard deviation

coefficient of variation

correlation coefficient

beta

10. The greater the beta, the            of the security involved.

greater the unavoidable risk

greater the avoidable risk

less the unavoidable risk

less the avoidable risk

11. Plaid Pants, Inc. common stock has a beta of 0.90, while Acme Dynamite Company common stock has a beta of 1.80. The expected return on the market is 10 percent, and the risk-free rate is 6 percent. According to the capital-asset pricing model (CAPM) and making use of the information above, the required return on Plaid Pants' common stock should be         , and the required return on Acme's common stock should be         .

3.6 percent; 7.2 percent

9.6 percent; 13.2 percent            CORRECT!

 Plaid required return = 0.06 + [(0.90)(0.10 - 0.06)] = 0.096

 Acme required return = 0.06 + [(1.8)(0.10 - 0.06)] = 0.132

9.0 percent; 18.0 percent

14.0 percent; 23.0 percent

12. Espinosa Coffee & Trading, Inc.'s common stock measured beta is calculated to be 0.75. The market beta is, of course, 1.00 and the beta of the industry of which the company is a part is 1.10. If Merrill Lych were to calculate an "adjusted beta" for Espinosa's common stock, that adjusted beta would most likely be          .

less than 0.75

more than 0.75, but less than 1.10     CORRECT!

Merrill Lynch would adjust for the tendency of measured  betas to revert toward the beta of the market  portfolio or toward the beta of the industry to

 which the company is a part. So, its adjusted  beta would end up higher than 0.75, but never  more than 1.10.

equal to 1.10

equal to 0.95 {i.e., (1/3) x (0.75 + 1.00 + 1.10)}