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Chapter 7
Capital Allocation Between the Risky Asset and the RiskFree
Asset
Multiple Choice Questions
1.
The Capital Allocation Line can be described as the
A) investment opportunity set formed with a risky asset and a riskfree asset.
B)
investment opportunity set formed with two risky assets.
C)
line on which lie all portfolios that offer the same utility to a particular investor.
D) line on which lie all portfolios with the same expected rate of return and different
standard deviations.
E)
none of the above.
Answer: A
Difficulty: Moderate
Rationale: The CAL has an intercept equal to the riskfree rate.
It is a straight line
through the point representing the riskfree asset and the risky portfolio, in expected
return/standard deviation space.
2.
Which of the following statements regarding the Capital Allocation Line (CAL) is
false
?
A) The CAL shows riskreturn combinations.
B)
The slope of the CAL equals the increase in the expected return of a risky
portfolio per unit of additional standard deviation.
C)
The slope of the CAL is also called the rewardtovariability ratio.
D) The CAL is also called the efficient frontier of risky assets in the absence of a
riskfree asset.
E)
Both A and D are true.
Answer: D
Difficulty: Moderate
Rationale: The CAL consists of combinations of a risky asset and a riskfree asset
whose slope is the rewardtovariability ratio; thus, all statements except d are true.
3.
Given the capital allocation line, an investor's optimal portfolio is the portfolio that
A) maximizes her expected profit.
B)
maximizes her risk.
C)
minimizes both her risk and return.
D) maximizes her expected utility.
E)
none of the above.
Answer: D
Difficulty: Moderate
Rationale: By maximizing expected utility, the investor is obtaining the best risk
return relationships possible and acceptable for her.
Bodie, Investments, Sixth Edition
1
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View Full Document Chapter 7
Capital Allocation Between the Risky Asset and the RiskFree
Asset
4.
An investor invests 30 percent of his wealth in a risky asset with an expected rate of
return of 0.15 and a variance of 0.04 and 70 percent in a Tbill that pays 6 percent.
His portfolio's expected return and standard deviation are __________ and
__________, respectively.
A) 0.114; 0.12
B)
0.087;0.06
C)
0.295; 0.12
D) 0.087; 0.12
E)
none of the above
Answer: B
Difficulty: Moderate
Rationale: E(r
P
) = 0.3(15%) + 0.7(6%) = 8.7%; s
P
= 0.3(0.04)1/2 = 6%.
Use the following to answer questions 58:
You invest $100 in a risky asset with an expected rate of return of 0.12 and a standard
deviation of 0.15 and a Tbill with a rate of return of 0.05.
5.
What percentages of your money must be invested in the risky asset and the riskfree
asset, respectively, to form a portfolio with an expected return of 0.09?
A) 85% and 15%
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This note was uploaded on 02/24/2010 for the course FINA 4310 taught by Professor Impson during the Spring '10 term at North Texas.
 Spring '10
 Impson
 Valuation

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