The Capital Asset Pricing Model

Multiple Choice Questions

1. In the context of the Capital Asset Pricing Model (CAPM) the relevant measure of risk is A. unique risk.

B. beta.

C. standard deviation of returns.

D. variance of returns.

E. none of the above.

Once, a portfolio is diversified, the only risk remaining is systematic risk, which is measured by beta.

Difficulty: Easy

3. In the context of the Capital Asset Pricing Model (CAPM) the relevant risk is A. unique risk.

B. market risk

C. standard deviation of returns.

D. variance of returns.

E. none of the above.

Once, a portfolio is diversified, the only risk remaining is systematic risk, which is measured by beta.

Difficulty: Easy

4. According to the Capital Asset Pricing Model (CAPM) a well diversified portfolio's rate of return is a function of A. market risk

B. unsystematic risk

C. unique risk.

D. reinvestment risk.

E. none of the above.

With a diversified portfolio, the only risk remaining is market, or systematic, risk. This is the only risk that influences return according to the CAPM.

Difficulty: Easy

5. According to the Capital Asset Pricing Model (CAPM) a well diversified portfolio's rate of return is a function of A. beta risk

B. unsystematic risk

C. unique risk.

D. reinvestment risk.

E. none of the above.

With a diversified portfolio, the only risk remaining is market, beta, or systematic, risk. This is the only risk that influences return according to the CAPM.

Difficulty: Easy

8. The risk-free rate and the expected market rate of return are 0.06 and 0.12, respectively. According to the capital asset pricing model (CAPM), the expected rate of return on security X with a beta of 1.2 is equal to A. 0.06.

B. 0.144.

C. 0.12.

D. 0.132

E. 0.18

E(R) = 6% + 1.2(12 - 6) = 13.2%.

Difficulty: Easy

10. Which statement is not true regarding the market portfolio? A. It includes all publicly traded financial assets.

B. It lies on the efficient frontier.

C. All securities in the market portfolio are held in proportion to their market values. D. It is the tangency point between the capital market line and the indifference curve. E. All of the above are true.

The tangency point between the capital market line and the indifference curve is the optimal portfolio for a particular investor.

Difficulty: Moderate

12. Which statement is not true regarding the Capital Market Line (CML)? A. The CML is the line from the risk-free rate through the market portfolio. B. The CML is the best attainable capital allocation line.

C. The CML is also called the security market line.

D. The CML always has a positive slope.

E. The risk measure for the CML is standard deviation.

Both the Capital Market Line and the Security Market Line depict risk/return relationships. However, the risk measure for the CML is standard deviation and the risk measure for the SML is beta (thus C is not true; the other statements are true).

Difficulty: Moderate

14. The market risk, beta, of a security is equal to

A. the covariance between the security's return and the market return divided by the variance of the market's returns. B. the covariance between the security and market returns divided by the standard deviation of the market's returns. C. the variance of the security's returns divided by the covariance between the security and market returns. D. the variance of the security's returns divided by the variance of the market's returns. E. none of the above.

Beta is a measure of how a security's return covaries with the market returns, normalized by the market variance.

Difficulty: Moderate

16. The Security Market Line (SML) is

A. the line that describes the expected return-beta relationship for well-diversified portfolios only. B. also called the Capital Allocation Line.

C. the line that is tangent to the efficient frontier of all risky assets. D. the...