Fin316 Final Exam Practice

Finance 316 practice problems for final exam 1. True or False: According to the CAPM, a stock 's expected return is positively related to its beta. >> True 2. In practice, the market portfolio is often represented by: A. a portfolio of U.S. Treasury securities. B. a diversified stock market index. C. an investor 's mutual fund portfolio. D. the historic record of stock market returns. 3. A stock 's beta measures the: A. average return on the stock. B. variability in the stock 's returns compared to that of the market portfolio. C. difference between the return on the stock and return on the market portfolio. D. market risk premium on the stock. 4. If the slope of the line measuring a stock 's historic returns against the market 's historic returns is positive, then the stock: A. has a beta greater than 1.0. B. has no unique risk. C. has a positive beta. D. plots above the security market line. 5. One of the easiest methods of diversifying away firm-specific risks is to: A. buy stocks with a beta of 1.0. B. build a portfolio with 20-25 individual stocks. C. purchase the shares of a mutual fund. D. purchase stocks that plot above the security market line. 6. An investor was expecting a 18% return on his portfolio with beta of 1.25 before the market risk premium increased from 8% to 10%. Based on this change, what return will now be expected on the portfolio? A. 20.0% B. 20.5% C. 22.5% D. 26.0% Old: 18% = rf + 1.25(8%) = rf + 10.0%, therefore, 8.0% = rf New: Expected return = 8.0% + 1.25(10%) = 8.0% + 12.5% = 20.5% 7. If a two-stock portfolio is equally invested in stocks with betas of 1.4 and 0.7, then the portfolio beta is: A. 0.70. B. 1.05. C. 1.40. D. 2.10. Portfolio beta = (W1 x B1) + (W2 x B2) = (.5 x 1.4) + (.5 x .70) = 1.05 1

Finance 316 practice problems for final exam 8. According to CAPM estimates, what is the cost of equity for a firm with beta of 1.5 when the risk-free interest rate is 6% and the expected return on the market portfolio is 15%?