Question 1

Which of the following best describes the relationship between risk and expected return according to financial theory?

Accepted Answer

Investors require a higher expected return to compensate for higher risk.

Question 2

Given the following probabilities and returns for a new product, calculate the expected return using the formula $$\bar{r} = \sum_{j=1}^{n} Pr_j 	imes r_j$$.

$$Pr_j: 0.10, 0.30, 0.40, 0.20$$

$$r_j: -10\%, 0\%, 15\%, 25\%$$

Accepted Answer

10\%

Question 3

Which of the following is NOT a source of risk for investors?

Accepted Answer

Guaranteed return risk

Question 4

If the standard deviation ($$\sigma) of $$returns for Asset A is 7\% and for Asset B is 13\%, which asset is considered riskier and why?

Accepted Answer

Asset B, because a higher standard deviation indicates greater variability in returns.

Question 5

What is the coefficient of variation (CV) for a fund with a mean return of 7\% and a standard deviation of 7.14\%? Use $$CV = \frac{\sigma}{\bar{r}}.$$

Accepted Answer

1.02

Question 6

Why does diversification reduce risk in a portfolio?

Accepted Answer

Because combining assets with less than perfectly positive correlation reduces overall portfolio risk.

Question 7

A portfolio consists of 50\% in a fixed fund (return 7\%) and 50\% in a growth fund (return 12\%). What is the expected portfolio return? Use $$r_p = \sum_{j=1}^{n} w_j r_j.$$

Accepted Answer

9.5\%

Question 8

Which of the following statements about the correlation coefficient in portfolio risk is correct?

Accepted Answer

A correlation coefficient of -1 between two assets provides the maximum risk reduction.

Question 9

Which type of risk can be eliminated through diversification?

Accepted Answer

Diversifiable risk (unique or non-systematic risk)

Question 10

Using the CAPM formula $$r_j = R_F + \beta_j(r_m - R_F)$$, what is the expected return for a stock with $$\beta = 2.4$$, $$R_F = 3.6\%$$, and $$r_m = 8.7\%$$?

Accepted Answer

15.84\%

Question 11

What does the beta ($$\beta) $$coefficient measure in the context of the CAPM?

Accepted Answer

The sensitivity of an asset’s return to changes in the market return.

Question 12

If an investor is risk averse, which investment would they prefer?

Accepted Answer

An investment with the lowest risk for a given level of return.

Question 13

Which of the following is an example of non-diversifiable risk?

Accepted Answer

Market risk due to economic downturns.

Question 14

A portfolio has a beta of 1.2. If the market return increases by 5\%, what is the expected change in the portfolio’s return?

Accepted Answer

6\%

Question 15

Which of the following best explains why international diversification can reduce portfolio volatility?

Accepted Answer

Because currency and economic fluctuations in different countries are not perfectly correlated.

Question 16

If the market risk premium $$(r_m - R_F) is 5.1$$\% and a stock’s beta is 2.4, what is the security risk premium for this stock?

Accepted Answer

12.24\%

Question 17

Which of the following is a correct interpretation of a low coefficient of variation (CV) for an investment?

Accepted Answer

The investment has low risk per unit of return.

Question 18

Which of the following is a key assumption of the CAPM model?

Accepted Answer

Investors are risk averse and require compensation for both time value of money and risk.

Question 19

If two assets in a portfolio have a correlation coefficient of +1, what is the effect on portfolio risk?

Accepted Answer

Portfolio risk is simply the weighted average of the individual risks.

Question 20

Which of the following is NOT a benefit of diversification?

Accepted Answer

Eliminating all market risk.

Risk and Return: Fundamentals, Measurement, and Portfolio Theory

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