Investments Ch 4

Question 1

Uncertainty that the realized return will not equal the expected return

Answer 1

Risk

Question 2

Non-diversifiable risk. This type of risk is inescapable, because no matter how well an investor diversifies, the risk of the overall market cannot be avoided.

Answer 2

Systematic risk

Question 3

Systematic risks can be remembered using the acronym PRIME.

Answer 3

Purchasing power risk
Reinvestment rate risk
Interest rate risk
Market risk
Exchange rate risk

Question 4

The loss of purchasing power through inflation

Answer 4

Purchasing power risk

Question 5

The risk that proceeds available for reinvestment must be invested at a lower interest rate than the instrument that generated the proceeds

Answer 5

Reinvestment rate risk

Question 6

The risk that a change in interest rates will cause the market value of the fixed income security to fall

Answer 6

Interest-rate risk

Question 7

The risk of the overall market

Answer 7

Market risk

The downside momentum of the market can impact prices of otherwise strong stocks.

Question 8

The risk associated with changes in the value of currencies

Answer 8

Exchange rate risk

Question 9

The uncertainty of returns caused by the possibility of major change in the political or economic environment of a country. Closely related to exchange risk.

Answer 9

Country risk, also called political risk

Question 10

This type of risk can be largely eliminated. Examples include business risk, and financial risk.

Answer 10

Unsystematic risk, aka non-systematic, or diversifiable risk

Question 11

Risk related to the nature of a firm’s operation

Answer 11

Business risk

Question 12

Risk related to how the firm finances its assets

Answer 12

Financial risk, also known as credit, risk, or default risk

Question 13

By diversifying with overseas investments, investors achieve risk reduction because of ________ of foreign securities with US securities.

Answer 13

lower correlation

Question 14

The uncertainty of the price at which one country’s currency can be converted in another’s.

Answer 14

Exchange rate risk

Question 15

The lowering of the value of a currency relative to the currencies of one or all other nations. Can also result from a rise in value of other currencies relative to the currency of a particular country.

Answer 15

Devaluation

Question 16

Generally means an increase in the currency’s value

Answer 16

Revaluation

Question 17

_____ implies that a security or commodity can be sold or purchased without delay and without substantial change in price absent new information. Describes both transaction speed and stability of price.

Answer 17

Liquidity

Question 18

________ refers only to the speed of a transaction. A necessary, but not the only, condition for liquidity.

Answer 18

Marketability

Question 19

Savings/checking/money market accounts and mutual funds are _________ rather than marketable.

Answer 19

Redeemed

Question 20

REITs, closed-end funds, ETFs, and brokered CDs are considered _________.

Answer 20

Marketable.

Question 21

The speed and ease with which a security may be bought or sold regardless of price fluctuations

Answer 21

Marketability

Question 22

The middle point between two extremes.

Answer 22

Mean

Question 23

The sum of each of the values being considered divided by the total number of values

Answer 23

arithmetic mean

Question 24

If you are considering the possible range of returns (in percentage) for a portfolio, a _______distribution applies.

Answer 24

normal

Question 25

If you are considering the possible ending value (in $) as of some future date, a _______ distribution applies because an unleaveraged portfolio can never be worth less than zero.

Answer 25

lognormal

Question 26

_______ and ________ both express the extent to which the movements of stocks/securities in the same portfolio are similar or not.

Answer 26

Correlation coefficient / covariance

Question 27

Considers an infinite possibility of outcomes. Measures the extent to which two stocks are related to each other or how the price movements of one of the securities is related to the price movement of the second security.

Answer 27

Covariance

Question 28

Falls within a specific range. A standardized version of the covariance where the values can range from +1 (perfectly positively correlated) to -1 (perfectly negatively correlated).

Answer 28

Correlation coefficient

Question 29

To determine the correlation coefficient of the returns in a portfolio on the exam, the _________ of each security’s return and the _________ between the returns on the securities are needed.

Answer 29

standard deviation / covariance

Question 30

Perfectly positively correlated securities have a relationship of ______.

Answer 30

+1.0

The securities move exactly together, and there is no reduction of portfolio risk.

Question 31

Perfectly negatively correlated securities have a value of _______.

Answer 31

-1.0

The securities move exactly opposite to one another. Risk is completely eliminated. The portfolio’s standard deviation is 0.

Question 32

A measure of relative variability used to compare investments with widely var ting rates of return and standard deviations.

Answer 32

Coefficient of Variation

Question 33

The standard deviation divided by the average or mean return

Answer 33

Coefficient of Variation

Question 34

Measures variability of returns used in a non diversified portfolio and is a measure of total risk.

Answer 34

Standard deviation

Question 35

Measures volatility of returns used in a diversified portfolio and is a measure of systematic risk

Answer 35

Beta

Question 36

The risk quantified by __________ includes variability, non diversified portfolio, total risk.

Answer 36

Standard Deviation

Question 37

In a normal (bell-shaped) distribution, _____ of all results will fall within +- one standard deviation of the average or mean, _____ will fall within two standard deviations, and ____ will fall within three standard deviations.

Answer 37

68% / 95% / 99%

Question 38

When the correlation coefficient of an equally weighted portfolio is less than 1, the risk must be _______ the average risk.

Answer 38

lower than

Question 39

The greater the beta coefficient, the _______ the systematic risk (nondiversifiable) associated with the individual stock.

Answer 39

greater the

Question 40

Equals (correlation coefficient * standard deviation of stock) / Standard deviation of the market

Answer 40

Beta

Question 41

A _________ is the weighted average of each security in the portfolio multiplied by its beta.

Answer 41

portfolio’s beta