Chapter 5 Terms

Question 1

Growth-Oriented Portfolio

Answer 1

primary objective is long-term price appreciation

Question 2

Income-Oriented Portfolio

Answer 2

primary objective is to produce regular dividend and interest income

Question 3

Positively Correlated

Answer 3

move in the same direction

Question 4

Negatively Correlated

Answer 4

move in opposite directions

Question 5

Advantages of International Diversification

Answer 5

• Broader investment choices
• Potentially greater returns than in U.S.
• Reduction of overall portfolio risk

Question 6

Disadvantages of International Diversification

Answer 6

• Currency exchange risk
• Less convenient to invest than U.S. stocks
• More expensive to invest
• Riskier than investing in U.S.

Question 7

Diversifiable (Unsystematic) Risk

Answer 7

• Results from uncontrollable or random events that are firm-specific
• Can be eliminated through diversification
• Examples: labor strikes, lawsuits

Question 8

Nondiversifiable (Systematic) Risk

Answer 8

• Attributable to forces that affect all similar investments
• Cannot be eliminated through diversification
• Examples: war, inflation, political events

Question 9

Stocks with betas greater than 1.00 are …

Answer 9

more risky than the overall market

Question 10

Stocks with betas less than 1.00 are …

Answer 10

less risky than the overall market

Question 11

The beta for the market is …

Answer 11

1.00

Question 12

What is beta?

Answer 12

• A measure of nondiversifiable risk
• Indicates how the price of a security responds to market forces

Question 13

Higher stock betas should result in …

Answer 13

higher expected returns due to greater risk

Question 14

If the market is expected to increase 10%, a stock with a beta of 1.50 is expected to increase …

Answer 14

15%

Question 15

What is Capital Asset Pricing Model (CAPM)

Answer 15

Model that links the notions of risk and return

Question 16

Traditional approach

Answer 16

Uses a broad range of industries to diversify the portfolio

Question 17

Modern Portfolio Theory (MPT)

Answer 17

Emphasizes statistical measures to develop a portfolio plan

Question 18

Efficient Frontier

Answer 18

The best balance between risk and return in a group of portfolios.

Question 19

Portfolios that fall to the right of the efficient frontier are …

Answer 19

not desirable because their risk return tradeoffs are inferior

Question 20

Portfolios that fall to the left of the efficient frontier are

Answer 20

not available for investments

Question 21

Portfolio Beta

Answer 21

The beta of a portfolio; calculated as the weighted average of the betas of the individual assets the portfolio includes

Question 22

nondiversifiable risk

Answer 22

provides a positive risk-return relationship

Question 23

Low-beta portfolios are …

Answer 23

are less responsive and less risky than high-beta portfolios.