When adding a randomly chosen new stock to an existing portfolio, the higher (or more positive) the degree of correlation between the new stock and stocks already in the portfolio, the less the additional stock will reduce the portfolio's risk.
Does adding a new stock to an existing portfolio reduce risk?
When adding a randomly chosen new stock to an existing portfolio, the higher (or more positive) the degree of correlation between the new stock and stocks already in the portfolio, the less the additional stock will reduce the portfolio's risk.
How can I reduce a stock's diversifiable risk?
An individual stock's diversifiable risk, which is measured by its beta, can be lowered by adding more stocks to the portfolio in which the stock is held.
What is the correlation between stock a and stock B?
Stock A has an expected return of 12%, a beta of 1.2, and a standard deviation of 20%. Stock B also has a beta of 1.2, but its expected return is 10% and its standard deviation is 15%. Portfolio A has $900,000 invested in Stock A and $300,000 invested in Stock B. The correlation between the two stocks' returns is zero (that is, rA,B = 0).
How do corporations earn returns for their stockholders?
Most corporations earn returns for their stockholders by acquiring and operating tangible and intangible assets. The relevant risk of each asset should be measured in terms of its effect on the risk of the firm's stockholders. True Stock X has a beta of 0.5 and Stock Y has a beta of 1.5.
What happens when you randomly add stocks to your portfolio?
adding more stocks to your portfolio increases the portfolio's expected return. a. adding more stocks to your portfolio reduces the portfolio's company-specific risk.
What happens to the required rate of return for a given stock if investors become more risk averse?
The tighter the probability distribution of its expected future returns, the greater the risk of a given investment as measured by its standard deviation. Risk-averse investors require higher rates of return on investments whose returns are highly uncertain, and most investors are risk averse.
Which of the following is most likely to be true for a portfolio of 40 randomly selected stocks?
For a portfolio of 40 randomly selected stocks, which of the following is most likely to be true? The beta of the portfolio is equal to the weighted average of the betas of the individual stocks.
Which portfolio should earn the highest average annual return?
Historically, stocks have enjoyed the most robust average annual returns over the long term (just over 10 percent per year), followed by corporate bonds (around 6 percent annually), Treasury bonds (5.5 percent per year) and cash/cash equivalents such as short-term Treasury bills (3.5 percent per year).
Why is higher return higher risk?
What is a high-risk, high-return investment? High-risk investments may offer the chance of higher returns than other investments might produce, but they put your money at higher risk. This means that if things go well, high-risk investments can produce high returns.
How the total level of portfolio risk can change by adding additional securities?
As the number of securities added to a portfolio increases, the standard deviation of the portfolio becomes smaller and smaller. Hence an investor can make the portfolio risk arbitrarily small by including a large number of securities with negative or zero correlation in the portfolio.
What is the beta of a portfolio with a large number of randomly selected stocks likely to be explain why?
What is the beta of a portfolio with a large number of randomly selected stocks? The beta of a portfolio with a large number of randomly selected stocks equals one. The standard deviation of such a portfolio is equal to the standard deviation of the market.
Which one of the following risks can be progressively eliminated by adding stocks to a portfolio?
Market risk can be eliminated in a stock portfolio through diversification.
What happens on the floor of a stock market?
A trading floor is where traders buy and sell fixed income securities, shares, commodities, foreign exchange, options, etc. It can be defined as that segment of the market where the trading activities by the dealers in financial instruments like equities, debt, derivatives, bonds, and futures occur.
What gives the highest return on investment?
stocksThe U.S. stock market has long been considered the source of the greatest returns for investors, outperforming all other types of financial securities and the housing market over the past century or so. Whether stocks are the best investment depends on the historical timeframe in which returns are studied.
What is the safest investment with the highest return?
9 Safe Investments With the Highest ReturnsCertificates of Deposit.Money Market Accounts.Treasury Bonds.Treasury Inflation-Protected Securities.Municipal Bonds.Corporate Bonds.S&P 500 Index Fund/ETF.Dividend Stocks.More items...•
What is the best portfolio allocation?
Balanced Portfolio: 40% to 60% in stocks. Growth Portfolio: 70% to 100% in stocks. For long-term retirement investors, a growth portfolio is generally recommended.
What happens to the market risk premium if there is no change in betas?
Also, if there is no change in stocks' betas, then the required rate of return on each stock as measured by the CAPM will increase by the same amount as the increase in expected inflation. True.
How is the required return determined?
The required return on a firm's common stock is, in theory, determined solely by its market risk. If the market risk is known, and if that risk is expected to remain constant, then no other information is required to specify the firm's required return.
What is market risk premium?
As a result, there exists a market risk premium, which is the amount over and above the risk-free rate, that is required to compensate stock investors for assuming an average amount of risk. True.
How does a firm change its beta?
A firm can change its beta through managerial decisions, including capital budgeting and capital structure decisions. True. Any change in its beta is likely to affect the required rate of return on a stock, which implies that a change in beta will likely have an impact on the stock's price, other things held constant.