Diversification works because: Select one: a. Portfolios have higher returns than individual assets. O b. Firm-specific risk can be never be reduced. O c. Stocks earn higher returns than bonds. O d. Unsystematic risk exists. O e. Forming stocks into portfolios reduces the standard deviation of returns for each stock.

Diversification works because: Select one: a. Portfolios have higher returns than individual assets. O b. Firm-specific risk can be never be reduced. O c. Stocks earn higher returns than bonds. O d. Unsystematic risk exists. O e. Forming stocks into portfolios reduces the standard deviation of returns for each stock.

Essentials Of Investments

11th Edition

ISBN:9781260013924

Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.

Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.

Chapter1: Investments: Background And Issues

Section: Chapter Questions

Problem 1PS

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Which one of the following expressions about risk and returns is wrong? A. In general, one reason why a stock is riskier than a bond is that because cash flows from a bond are known and promised, whereas cash flows from a stock are neither known nor promised. B. According to CAPM model, a well-diversified portfolio will have a beta which equals to 0. C. Risk premium is the extra return provided on risky assets to compensate for risk. The difference between risky return and the risk-free return. D. Unexpected return happened because new information came to light which caused our expectations about prices and returns to change.
According to modern portfolio theory, the idea that investors with different indifference curves will hold the same portfolio of risky securities is a result of O a. the separation theorem O b. covariance O c. the normal distribution assumption O d. diminishing marginal utility of income
a. Why do investors believe that low price-earnings stocks are trading cheap in the market b. An investment strategy that seeks to create a portfolio of stocks with low price-earnings ratios is believed to be able to earn excess market returns. Explain why this is not the case in perfect capital market under certainty. c. Explain how in an imperfect capital market where there is risk, that a low price-earnings ratio strategy may be able to generate excess market returns.
Equity price risk is the risk that arises from security price Choose. - the risk of a Choose.. v in the value of a Choose... v or a portfolio. Equity price risk can be either systematic or Choose. v risk. In a global economic crisis, equity price risk is Choose.. because it affects multiple assets Choose. volatility decline classes. increase specific systematic security
Identify the FALSE statement a. Where two securities are perfectly positively correlated, there is no reduction in unsystematic risk through diversification. b. Portfolio theory, as initially developed by Markowitz (1952), assumes that the returns from investments are normally distributed. c. Beta is calculated by finding the covariance between the return on the asset and the return on the market and dividing it by the variance of the return on the market. d. A well-diversified portfolio should have a beta significantly less than one.
1. The diversifiable risk of a portfolio: a. Is correlated with systematic risk. b. Can be made sufficiently small. c. Is zero in the real world. d. Is the risk that investors lose because of transaction costs. Which one of the following conditions determines the investor’s overall optimal portfolio? a. The marginal ratio of substitution of the investor’s utility function must be equal to the Sharpe ratio of the optimal risky portfolio. b. The standard-deviation of the overall portfolio in minimised. c. The expected return of the overall portfolio is maximised. d. The slope of the Sharpe-ratio is equal to zero. 4. Markets can never be strong-form efficient because: a. There are too many traders in them. b. Investors are rational. c. Information is costly to acquire. d. All information is public. 5. Which one of the following is not a property of a pure arbitrage portfolio? a. Zero investment. b. Zero systematic risk. c. Positive net return. d. All of the above.
When seeking to diversify and eliminate unsystematic risk in your portfolio, do you want stocks whose movements have high correlation (i.e. move together) or low correlation (i.e. don't move togeter). a) High correlation b) Low correlation
an investment market, understanding the concept of undervalued and overvalued stocks is very important. Hence, a prudent investor must have good knowledge about Beta, Market Rate of Return and Risk Free Rate of Return. b) Give a graphical example to present the positioning of:  Systematic risk  Risk free rate of return  Market rate of return, and  Risk premium.
2. Stock prices and stand-alone risk Risk is the potential for an investment to generate more than one return. A security that will produce only one known return is referred to as a risk-free asset, as there is no potential for deviation from the known expected outcome. Investments that have the chance of producing more than one possible outcome are called risky assets. Risk, or potential variability in an investment's possible returns, occurs when there is uncertainty about an investment's future outcome, such as the return expected to be generated by the investment and realized by an investor. Generally, investors would prefer to invest in assets that have: O A higher-than-average expected rate of return given the perceived risk O A lower-than-average expected rate of return given the perceived risk Read the following descriptions and identify the type of risk or term being described: Description This type of risk relates to the possibility that a firm will not be able to service its…
In efficient markets, the rate of return on a stock should be: A. always greater than the risk-free rate B. Less than zero C. Related to the systemic risk of the stock D. Zero; no stock should earn a positive return
Economy Probability Stock A Stock B Recession -30% -20% 10% 5% 40% 15% Average Boom What is the standard deviation of Stock A? 18.8% 24.9% 12.9% 0.25 0.50 0.25 20.0%
This question relates to the two types of risk and to diversification. a)What is specific risk? b)What is market risk? c)What is meant by diversification? d)Explain why diversification is a useful tool to manage specific risk but not market risk. Be sure you answer clearly both why diversification can help manages specific risk as well as why it is not useful in managing market risk. e)Approximately how many stocks in a portfolio do you need to be fully diversified?

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