Investments Exam 2 Study Guide

The expected return of an asset is:

• The single most likely return you would earn if you are faced with this situation once.

• the return you would expect on average, if you were faced with this situation a large number of times.

• the return expected after an investment

• None of the choices

If the covariance is greater than 0 the correlation coefficient is

• -1

• Less than 0

• 0

• Greater than 0

• +1

Diversification is most effective at reducing the risk of a two-asset portfolio if the correlation coefficient between the two stocks is

• -1

• -0.5

• 0

• 0.5

• 1

The answer is: "People used to think 8-15 were enough, but now evidence suggests that many more than this are needed." The question is:

• What is the number of securities needed to eliminate all systematic risk?

• What is the number of securities needed to eliminate all portfolio risk?

• What is the number of securities needed to produce a well-diversified portfolio?

• What is the number of securities needed to eliminate all unsystematic risk?

The answer is: "In a portfolio of 4 securities there are 6 of them." The question is:

• What are unique variance terms?

• What are covariance terms?

• What are variance terms?

• What are unique covariance terms?

Diversification is least effective at reducing the risk of a two-asset portfolio if the correlation coefficient between the two stocks is

• 0

• 0.5

• -0.5

• -1

Suppose the correlation coefficient between investments A and B equals 1 and the correlation coefficient between investments A and C equals -1. The correlation coefficient between investments B and C

• equals -1

• is impossible to determine without more information

• equals 0

• equals 1

If we compare the efficient frontier formed by assuming there is no risk-free asset (call it the "original efficient frontier") with the CML, which one dominates the other?

• The CML

• Neither one dominates the other

• The original efficient frontier

What is the Capital Market Line (CML)?

• The set of all efficient portfolios if all assets are risk-free

• The set of all efficient portfolios if there is no risk-free asset

• The set of all efficient portfolios if there is a risk-free asset.

Which of the following would cause the risk-free rate to increase?

• An increase in the riskiness of the stock market

• An increase in the expected inflation rate

• An increase in people's desire to consume now instead of waiting

• All options