MCQs for midterm 2 Flashcards
The security market line depicts
a. A security’s expected return as a function of its systematic risk
b. The market portfolio as the optimal portfolio of risky securities
c. The relationship between a security’s return and the return on an index
d. The complete portfolio as a combination of the market portfolio and the risk-free asset
a. A security’s expected return as a function of its systematic risk
The capital asset pricing model asserts that portfolio returns are best explained by
a. Economic factors
b. Specific risk
c. Systematic risk
d. Diversification
c. Systematic risk
According to the CAPM, the expected rate of return of a portfolio with a beta of 1.0 and an alpha of 0 is
a. Between rM and rf
b. The risk-free rate, rf
c. β(rM (2rf)
d. The expected return on the market, rM
d. The expected return on the market, rM
Ki = RF + (RM - RF) = RM
how do we know which security has a higher firm specific risk when comparing on a graph with another security?
the security that has bigger deviations from its SCL has higher firm specific risk
how do we know which security has higher a market risk when comparing on a graph with another security?
we see the SCLs for each stock
whichever is steeper is the one with a higher Beta (Beta is the slope of the SCL)
–> so the steeper it is, the more market risk there is for a given stock
how do we know which security has a higher R squared when comparing on a graph with another security?
we see the SCLs for each stock
whichever is steeper is the one with a higher Beta (Beta is the slope of the SCL)
the R squared depends on a firms Beta and residual risk
–> firms with higher betas have less residual risk
–> hence, the one with a higher bBeta has a higher R squared
how do we know which security has a higher alphas when comparing on a graph with another security?
Alpha is the intercept of the SCL with the expected return axis
–> the stock with the highest SCL intercept is the one with the highest alpha
how do we know which security has a higher correlation with the market when comparing on a graph with another security?
- we could legit just look at how the dots differ from the SCL
–> the one that has the dots more aligned to it has a higher correlation
- The correlation coefficient is simply the square root of R squared, so the stock with the biggest R squared (or Beta) gets it
According to the theory of arbitrage,
a. High-beta stocks are consistently overpriced
b. Low-beta stocks are consistently overpriced
c. Positive alpha stocks will quickly disappear
d. Rational investors will arbitrage consistent with their risk tolerance
c. Positive alpha stocks will quickly disappear
A zero investment portfolio with a positive alpha could arise if
a. The expected return of the portfolio equals zero
b. The capital market line is tangent to the opportunity set
c. The law of one price remains unviolated
d. A risk-free arbitrage opportunity exists
d. A risk-free arbitrage opportunity exists
An investor will take as large a position as possible when an equilibrium price relationship is violated.
This is an example of
a. A dominance argument
b. The mean-variance efficient frontier
c. A risk-free arbitrage
d. The capital asset pricing model
c. A risk-free arbitrage
in contrast to the capital asset pricing model, arbitrage pricing theory
a. Requires that markets be in equilibrium
b. Uses risk premiums based on micro variables
c. Specifies the number and identifies specific factors that determine expected returns
d. Does not require the restrictive assumptions concerning the market portfolio
d. Does not require the restrictive assumptions concerning the market portfolio
explain the alpha transpose strategy?
- basically, we long the stock (stock K) with the positive alpha
–> this stock K can have any beta as long as it has a positive alpha
–> choose preferably the sock with the highest beta (apparently but not sure)
- we create a portfolio from the market portfolio M and RF that would have the same beta as stock K (easy shit just do weights)
- From this, we decide to long stock K since it has a positive alpha and short the Portfolio we made
- this should result in the Expected non risk return being stock K’s alpha
According to the Capital Asset Pricing Model (CAPM),
a. a security with a positive alpha is considered overpriced
b. a security with a zero alpha is considered to be a good buy
c. a security with a negative alpha is considered to be a good buy
d. a security with a positive alpha is considered to be underpriced
e. None
d. a security with a positive alpha is considered to be underpriced
