Question

QUESTION 18 Which of the following CORRECTY 1. An investere eliminate virtually all diventableia he or she holds a very larg, well-densited portfolio of rocks 2. Once a portfolio has shoutodes, adding additional is will be reduce its risk by event all out 03. It is impossible to have to where the market vak of a single work is less than that of a portfolio that includes the wock 4. An investor can listen all market rid of her she holds a very large and well diversified portfolio of stocks 5. The higher the correlation between the stocks in a part, the lower the risk oherent in the portfolio QUESTION 10 Which of the following water is CORRECT? 1. The required return firms common stock is, in theory, determined solely by its market risk of the market risk is known, and if that risk is expected to remain constant, then ne other information is required to specify the firm's required retur 2.A stock' bet is less relevantes mesure of risk to an investor with a well-diversified portfolio than to an investor who holds only that one stock 3. Portfolio divendication reduces the variability of retums (measured by the standard deviation of each individual stock held in a portfolio 4. A security are s-diveniret, relative to that of everage stock 5.Tanier boys caughecks, beer she can, through diversification, eliminate all or diversifiable risk inherent is owning stocks. Therefore, ita pertfolio contained all publicly ended stocks, it would be esentially riskie QUESTION 20 Which of the following statement is CORRECT? 1. An indien is a bond that is less risky than a mortgage bond 2. The expected rem on a corporate bond will really exceed the body do marity 3. Under our bankruptcy lows, y firm that is in financial distress will be forced to declare bankruptcy and then be liquidated 4. Allele equality has a lower yield to maturity than whorinated at 3.1. bons coupere exceed is yield to maturity, thesis expected return to lovestors will also exceed its yield QUESTION 21 Ne Foodstock has abf14, while the stock has a bea of 0.7 meter fra 5.3% and the marriak premium qual Which of the following statements CORRECT 2. Sinceles beta is twice that of Ele's, its required nute ofretum will also be iwice that of Elba b. If the ridere increases but the market risk premium romans changed the required retum will increase for both socks but the increase will be larger for en las herbet c. If the market is increase the risk-free remains change, Neurs will increase because it has a better than 10 rum will decine because it has bets less than 1 d. If the rise to recreases while the market premium romance, then the required to convenge stock will in If the market risk premium decreases but the risk free rallers changel Niedren will decrease because it has a better than wilders, but by more than it because it has a bless than 10

QUESTION 18

Which of the following statements is CORRECT?

1.

An investor can eliminate virtually all diversifiable risk if he or she holds a very large, well-diversified portfolio of stocks.

2.

Once a portfolio has about 40 stocks, adding additional stocks will not reduce its risk by even a small amount.

3.

It is impossible to have a situation where the market risk of a single stock is less than that of a portfolio that includes the stock.

4.

An investor can eliminate virtually all market risk if he or she holds a very large and well diversified portfolio of stocks.

5.

The higher the correlation between the stocks in a portfolio, the lower the risk inherent in the portfolio.

10 points   

QUESTION 19

Which of the following statements is CORRECT?

1.

The required return on a firm's common stock is, in theory, determined solely by its market risk. If the market risk is known, and if that risk is expected to remain constant, then no other information is required to specify the firm's required return.

2.

A stock's beta is less relevant as a measure of risk to an investor with a well-diversified portfolio than to an investor who holds only that one stock.

3.

Portfolio diversification reduces the variability of returns (as measured by the standard deviation) of each individual stock held in a portfolio.

4.

A security's beta measures its non-diversifiable, or market, risk relative to that of an average stock.

5.

If an investor buys enough stocks, he or she can, through diversification, eliminate all of the diversifiable risk inherent in owning stocks. Therefore, if a portfolio contained all publicly traded stocks, it would be essentially riskless.

10 points   

QUESTION 20

Which of the following statements is CORRECT?

1.

An indenture is a bond that is less risky than a mortgage bond.

2.

The expected return on a corporate bond will generally exceed the bond's yield to maturity.

3.

Under our bankruptcy laws, any firm that is in financial distress will be forced to declare bankruptcy and then be liquidated.

4.

All else equal, senior debt generally has a lower yield to maturity than subordinated debt.

5.

If a bond's coupon rate exceeds its yield to maturity, then its expected return to investors will also exceed its yield to maturity

10 points   

QUESTION 21

Nile Food's stock has a beta of 1.4, while Elba Eateries' stock has a beta of 0.7. Assume that the risk-free rate, r RF, is 5.5% and the market risk premium, (r M – r RF), equals 4%. Which of the following statements is CORRECT?

a.

Since Nile's beta is twice that of Elba's, its required rate of return will also be twice that of Elba's.

b.

If the risk-free rate increases but the market risk premium remains unchanged, the required return will increase for both stocks but the increase will be larger for Nile since it has a higher beta.

c.

If the market risk premium increases but the risk-free rate remains unchanged, Nile's required return will increase because it has a beta greater than 1.0 but Elba's required return will decline because it has a beta less than 1.0.

d.

If the risk-free rate increases while the market risk premium remains constant, then the required return on an average stock will increase.

e.

If the market risk premium decreases but the risk-free rate remains unchanged, Nile's required return will decrease because it has a beta greater than 1.0 and Elba's will also decrease, but by more than Nile's because it has a beta less than 1.0.

Answer 1

Q18:

An investor can eliminate virtually all diversifiable risk if he or she holds a very large, well-diversified portfolio of stocks.

--- Diversifying is a way of reducing unsystematic risks

Q19:

A security's beta measures its non-diversifiable, or market, risk relative to that of an average stock.

--- beta is a measure of a securitys non diversifiable risks and diversifiable risks is represented by its standard deviation of returns

Q20:

All else equal, senior debt generally has a lower yield to maturity than subordinated debt.

-----senior debt is a secured debt and less riskier than subordinated debt. Due to its low risk, the YTM will be lower

Q21:

If the risk-free rate increases while the market risk premium remains constant, then the required return on an average stock will increase.

------ required return= riskfree rate+ beta*market risk premium ; hence risk free rate increases required return increases