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1 FOUNDATION OF RISK MANAGEMENT 1. Financial risk management: A. seeks to eliminate all financial risks. B. only focuses on managing market-related financial risks. C. is the process of reacting to financial losses in order to minimize losses. D. Is the process of detecting, assessing, and managing financial risks. 2. The risk of sustaining significant losses due to the inability to take or exit a position at a fair price is most likely: A. market risk B. liquidity risk C. operational risk D. credit event risk 3. Risk management to reduce the probability of financial distress: A. always increases firm value B. can increase firm value because financial distress has measurable costs C. is easily replicated by individual shareholders D. cannot reduce the weighted average cost of capital 4. Which of the following strategies may increase firm value? I. Reducing the potential costs of financial distress and bankruptcy. II. Reducing the weighted average cost of capital. III. Improving management incentives. IV. Reducing information asymmetries. A. and II only B. and only C. , and only D. , , III and IV 5. The role of risk management does NOT involve performing which of the following tasks? A. Make sure that the firm takes greater than the necessary amount of risk.
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2 B. Assess all risks faced by the firm. C. Communicate these risks to risk-taking decision makers. D. Monitor and manage these risks. 6. Jim Sheehan manages a diversified portfolio containing forty stocks. The portfolio beta is 1.05. Jim is considering adding the stock of ABC Inc. to the portfolio, and would fund the purchase with cash already in the portfolio. ABC Inc. has a beta of 1.20, and is currently not part of the portfolio. Which statement about the resulting portfolio is TRUE? A. Systematic risk would increase, but the unsystematic risk would be unchanged. B. Systematic risk would decrease, but the unsystematic risk would be unchanged. C. Both systematic risk and unsystematic risk would be unchanged. D. Both systematic risk and unsystematic risk would both incease. 7. In the context of the capital asset pricing model (CAPM), systematic risk is best described as the part of total risk: A. that is uncorrelated with the market B. that can be reduced through diversification C. for which investors can expect to be compensated D. for which investors cannot expect to be compensated 8. Which of the following statements about portfolio risk and diversification is least accurate? A. Not all risk is diversifiable. B. Unsystematic risk can be substantially reduced by diversification. C. Systematic risk can be eliminated by holding securities in a well-diversified international stock portfolio. D.
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This note was uploaded on 11/02/2011 for the course FINANCE 611 taught by Professor Liyang during the Spring '11 term at Covenant School of Nursing.

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