CORPORATE FINANCE
MBAC 6060
Chapter 6– Risk and Return (13th ed.)
1. A highly risk-averse investor is considering the addition of an asset to a 10-stock
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portfolio. The two securities under consideration both have an expected return, k, equal
to 15 percent. However, the distribution of possible returns associated with Asset A has a
standard deviation of 12 percent; while asset B’s standard deviation is 8 percent. Both
assets are correlated with the market with r equal to 0.75. Which asset should the riskaverse investor add to his/her portfolio?
a. Asset A.
b. Asset B.
c. Both A and B.
d. Cannot tell without more information.
2. Stock A has a beta of 1.5 and Stock B has a beta of 0.5. Assume the market is in
equilibrium. Which of the following statements must be true about these securities?
a. When held in isolation, Stock A has greater risk than Stock B.
b. Stock B would be a more desirable addition to a portfolio then Stock A.
c. Stock A would be a more desirable addition to a portfolio then Stock B.
d. The expected return on Stock A will be greater than that on stock B.
e. The expected return on Stock B will be greater than that on stock A.
3. Bob has a $50,000 stock portfolio with a beta of 1.2, an expected return of 10.8 percent,
and a standard deviation of 25 percent. Melissa has a $50,000 portfolio with a beta of
0.8, and expected return of 9.2 percent, and a standard deviation of 25 percent. The
correlation coefficient, r, between Bob’s and Melissa’s portfolio is 0. Which of the
following best describes their combined $100,000 portfolio?
a. The combined portfolios expected return is a simple average of the expected
returns of the two individual portfolios (10%).
b. The combined portfolio’s beta is a simple average of the betas of the two individual
portfolios (1.0).
c. The combined portfolios’ standard deviation is less than a simple average of the
two portfolios’ standard deviations (25%), even though there is no correlation
between the returns of the two portfolios.
d. Statements a and b are correct.
e. All of the statements above are correct.
4. In the years ahead the market risk premium, (kM - kRF), is expected to fall, while the riskfree rate, kRF, is expected to remain at current levels. Given this forecast, which of the
following statements is most correct?
a. The required return for all the stocks will fall by the same amount.
b. The required return will fall for all stocks but will fall for more for stocks with
higher betas.
c. The required return will fall for all stocks, but less for stocks with higher betas.
d. The required return will increase for stocks with a beta less than 1.0 and will
decrease for stocks with a beta greater than 1.0.
e. The required return on all stocks will remain unchanged.
5.
You observe the following information regarding Company X and Company Y:



Company X has a higher expected mean return than Company Y.
Company X has a lower standard deviation than Company Y.
Company X has a higher beta than Company Y.
Given this information, which of the following statements is most correct?
a.
b.
c.
d.
e.
6.
Stock A and Stock B each have an expected return of 15 percent, a standard deviation of
20 percent, and a beta of 1.2. The returns of the two stocks are not perfectly correlated;
the correlation coefficient is 0.6. You have put together a portfolio which is 50 percent
Stock A and 50 percent Stock B. Which of the following statements is true?
a.
b.
c.
d.
e.
7.
The portfolio’s expected return is 15 percent.
The portfolio’s beta is less than 1.2.
The portfolio’s standard deviation is 20 percent.
Statements a and b are correct.
All of the statements above are correct.
Ebeneezer Scrooge Jasper currently manages a $500,000 portfolio. He is expecting to
receive an additional $250,000 from a new client. The existing portfolio has a required
return of 10.75 percent. The risk-free rate is 4 percent and the return on the market is 9
percent. If Scrooge wants the required return on the new portfolio to be 11.5 percent,
what should be the average beta for the new stocks added to the portfolio?
a.
b.
c.
d.
e.
8
Company X has a lower coefficient of variation.
Company X has more company-specific risk.
Company X is a better stock to buy.
Statements a and b are correct.
Statements a, b, and c are correct.
1.50
2.00
1.67
1.35
1.80
An investor has $5,000 invested in a stock which has an estimated beta of 1.2, and another
$15,000 invested in the stock of the company for which she works. The risk-free rate is 6
percent and the market risk premium is also 6 percent. The investor calculates that the
required rate of return on her total ($20,000) portfolio is 15 percent. What is the beta of
the company for which she works?
a.
b.
c.
d.
e.
1.6
1.7
1.8
1.9
2.0
9. An investor is forming a portfolio by investing $50,000 in stock A that has a beta of 1.50,
and $25,000 in stock B that has a beta of 0.90. The return on the market is equal to 6
percent and Treasury bonds have a yield of 4 percent. What is the required rate of return
on the investor’s portfolio?
a. 6.6%
b. 6.8%
c. 5.8%
d. 7.0%
e. 7.5%
10. You are an investor in common stocks, and you currently hold a well-diversified portfolio
that has an expected return of 12 percent, a beta of 1.2, and a total value of $9,000. You
plan to increase your portfolio by buying 100 shares of AT&E at $10 a share. AT&E has
an expected return of 20 percent with a beta of 2.0. What will be the return ( r̂P ) and the
beta (b^p) of your portfolio after you purchase the new stock?
a.
b.
c.
d.
e.
r̂P = 20.0%; bp = 2.00
r̂P = 12.8%; bp = 1.28
r̂P = 12.0%; bp = 1.20
r̂P = 13.2%; bp = 1.40
r̂P = 14.0%; bp = 1.32
11. Oakdale Furniture Inc. has a beta coefficient of 0.7 and a required rate of return of 15
percent. The market risk premium is currently 5 percent. If the inflation premium
increases by 2 percentage points, and Oakdale acquires new assets that increase its beta
by 50 percent, what will be Oakdale’s new required rate of return?
a. 13.50%
b. 22.80%
c. 18.75%
d. 15.25%
e. 17.00%
12. Currently, the risk-free rate is 5 percent and the market risk premium is 6 percent. You
have your money invested in three assets: an index fund that has a beta of 1.0, a risk-free
security that has a beta of 0, and an international fund that has a beta of 1.5. You want to
have 20% of your portfolio invested in the risk-free asset, and you want your overall
portfolio to have an expected return of 11 percent. What portion of your overall portfolio
should you invest in the international fund?
a. 0%
b. 40%
c. 50%
d. 60%
e. 80%
Chapter 6 Risk & Return (13th ed) ProbSet
Answers:
1. B
2. D
3. E
4. B
5. A
6. A
7. E
8. A
9. A
10. B
11. C
12. B