Risk and Return. True or false? Explain or qualify as necessary.

QUESTION

Risk and Return. True or false? Explain or qualify as necessary.
a. Investors demand higher expected rates of return on stocks with more variable rates of return. .
b. The capital asset pricing model predicts that a security with a beta of zero will provide an expected return of zero.
c. An investor who puts $10,000 in Treasury bills and $20,000 in the market portfolio will have a portfolio beta of 2.
d. Investors demand higher expected rates of return from stocks with returns that are highly exposed to macroeconomic changes.
e. Investorsdemand higher expected rates of return from stocks with returns that are very sensitive to Fluctuationsin the stock market.
a. False, investors are concerned with the market risk or non diversifiable risk however, variability of return is a measure of total risk . It is possible that stock have high variable returns or total risk and low market risk. Thus, investors do not demand higher expected rates of return on stocks with more variable rate of return. b. False, As per Capital Asset Pricing Model Ri= Rf+ (E(rm)- Rf) where Ri= expected return of asset Rf= risk free rate =Beta E(rm)= Average market return If =Beta=0 then Ri=Rf Thus, if beta is zero then asset expected return is equal to risk free rate of return. c. False, Investor is putting 1/3rd amount in treasury bill and 2/3rd amount in market portfolio .Therefore , portfolio Beta will be

1)=2/3 or 0.67 d. True, macroeconomic changes include variable that affect the behavior of aggregate economy such as unemployment, inflation etc. These changes cannot be diversified so the stocks with high exposure to macroeconomic changes have high market risk so they demand higher expected rate of return. e. True, stocks that are sensitive to fluctuations in stock market cannot be diversified that is they have high systematic risk thus investor demand higher expected rate of return from such stocks.

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