Investment-Quiz-T2

Which of the following would improve the applicability of Modern Portfolio Theory to real-world investing?

• Using different risk-free rates for borrowing and lending
• Incorporating behavioral finance insights into models
• Removing the efficient frontier
• Focusing only on single-period investments

What is a significant limitation of assuming normally distributed returns in portfolio theory?

• Overestimates the likelihood of extreme events
• Underestimates portfolio returns
• Fails to account for systematic risk
• Assumes investors are risk-seeking

Why is diversification sometimes unable to protect against severe market downturns?

• It only reduces systematic risk
• Asset correlations can increase during financial crises
• It eliminates both systematic and unsystematic risk
• Diversification increases portfolio beta

Which of the following would limit the effectiveness of Modern Portfolio Theory in real-world applications?

• Perfect correlation between assets
• Lack of accurate historical data for expected returns
• High correlation between assets
• Multiple-period investment horizons

Which of the following scenarios would suggest that the assumptions of CAPM are violated?

• All investors have the same risk tolerance
• All assets are perfectly liquid
• Investors can borrow and lend at different risk-free rates
• All assets follow a normal distribution

An investor uses CAPM to estimate the required return of an asset. If the asset’s beta is 0.8 and the market risk premium is 5%, what is the risk premium for the asset?

• 4%

• 8%

• 05%

• 6%

A portfolio lies below the efficient frontier. What does this indicate?

• The portfolio has minimized risk
• The portfolio is underperforming
• The portfolio is optimal
• The portfolio has no systematic risk

If two assets have a perfect negative correlation, combining them will:

• Increase the overall portfolio risk
• Have no effect on risk
• Eliminate systematic risk
• Potentially eliminate overall portfolio risk

An investor adds an asset with a high beta to a well-diversified portfolio. What is the likely impact?

• Reduce the overall risk of the portfolio
• Increase the portfolio’s sensitivity to market movements
• Eliminate systematic risk
• Decrease the expected return

If an investor wants to reduce unsystematic risk, which strategy should they employ?

• Invest in a single asset with high beta
• Hold a diversified portfolio of uncorrelated assets
• Focus on assets with the highest historical return
• Avoid investing in low-risk assets