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**Sample Questions Posted Below**

**Chapter Five**

**The Mathematics of Diversification**

**A **1. The work of Harry Markowitz is based on the search for

- efficient portfolios
- undervalued securities
- the highest long-term growth rates
- minimum risk portfolios

**B **2. Securities A and B have expected returns of 12% and 15%, respectively. If you put 30% of your money in Security A and the remainder in B, what is the portfolio expected return?

- 4%
- 1%
- 6%
- 3%

**B **3. Securities A and B have expected returns of 12% and 15%, respectively. If you put 40% of your money in Security A and the remainder in B, what is the portfolio expected return?

- 4%
- 8%
- 6%
- 3%

**B **4. The variance of a two-security portfolio decreases as the return correlation of the two securities

- increases
- decreases
- changes in either direction
- cannot be determined

**D **5. A security has a return variance of 25%. The standard deviation of returns is

- 5%
- 15%
- 25%
- 50%

**C **6. A security has a return variance of 16%. The standard deviation of returns is

- 4%
- 16%
- 40%
- 50%

**A **7. Covariance is the product of two securities’

- expected deviations from their means
- standard deviations
- betas
- standard deviations divided by their correlation

**C **8. The covariance of a random variable with itself is

- its correlation with itself
- its standard deviation
- its variance
- equal to 1.0

**D **9. Covariance is _____ correlation is ______.

- positive, positive or negative
- negative, positive or negative
- positive or negative, positive or zero
- positive or negative, positive or negative

**C **10. For a six-security portfolio, it is necessary to calculate ___ covariances plus ___ variances.

- 36, 6
- 30, 6
- 15, 6
- 30, 12

**B **11. COV (A,B) = .335. What is COV (B,A)?

- – 0.335
- 335
- (0.335 x 0.335)
- Cannot be determined

**A **12. One of the first proponents of the single index model was

- William Sharpe
- Robert Merton
- Eugene Fama
- Merton Miller

**B **13. Without knowing beta, determining portfolio variance with a sixty-security portfolio requires ___ statistics per security.

- 1
- 60
- 3600/2
- 3600

**B **14. Securities A, B, and C have betas of 1.2, 1.3, and 1.7, respectively. What is the beta of an equally weighted portfolio of all three?

- 15
- 40
- 55
- 60

**B **15. Securities A, B, and C have betas of 1.2, 1.3, and 1.7, respectively. What is the beta of a portfolio composed of 1/2 A and 1/4 each of B and C?

- 15
- 35
- 55
- 60

**B **16. A diversified portfolio has a beta of 1.2; the market variance is 0.25. What is the diversified portfolio’s variance?

- 33
- 36
- 41
- 44

**B** 17. Security A has a beta of 1.2; security B has a beta of 0.8. If the market variance is 0.30, what is COV (A,B)?

- .255
- .288
- .314
- .355

**B **18. As portfolio size increases, the variance of the error term generally

- increases
- decreases
- approaches 1.0
- becomes erratic

**C **19. The least risk portfolio is called the

- optimum portfolio
- efficient portfolio
- minimum variance portfolio
- market portfolio

**B **20. Industry effects are associated with

- the single index model
- the multi-index model
- the Markowitz model
- the covariance matrix

**A **21. COV (A,B) is equal to

- the product of their standard deviations and their correlation
- the product of their variances and their correlation
- the product of their standard deviations and their covariances
- the product of their variances and their covariances

** **

**A **22. The covariance between a constant and a random variable is

- zero
- 0
- their correlation
- the product of their betas

**D **23. The covariance between a security’s returns and those of the market index is 0.03. If the security beta is 1.15, what is the market variance?

- 005
- 010
- 021
- 026

**D **24. COV(A,B) = 0.50; the variance of the market is 0.25, and the beta of Security A is 1.00. What is the beta of security B?

- 00
- 25
- 50
- 00

**D **25. There are 1,700 stocks in the Value Line index. How many covariances would have to be calculated in order to use the Markowitz full covariance model?

- 1,700
- 5,650
- 12,350
- 1,444,150

**A** 26. There are 1,700 stocks in the Value Line index. How many betas would have to be calculated in order to find the portfolio variance?

- 1,700
- 5,650
- 12,350
- 1,444,150

**A** 27. Knowing beta, determining the portfolio with a sixty-security fully diversified portfolio requires ______ statistic(s) per security.

- 1
- 60
- 3600/2
- 3600

**A** 28. Suppose Stock A has an expected return of 15%, a standard deviation of 20%, and a Beta of 0.4 while Stock B has an expected return of 25%, a standard deviation of 30% and a beta of 1.25, and the correlation between the two stocks is 0.25. What is the expected return for a portfolio with 80% invested in Stock A and 20% invested in Stock B?

- 17%
- 19%
- 21%
- 23%

**B** 29. Suppose Stock A has an expected return of 15%, a standard deviation of 20%, and a Beta of 0.4 while Stock B has an expected return of 25%, a standard deviation of 30% and a beta of 1.25, and the correlation between the two stocks is 0.25. What is the standard deviation for a portfolio with 80% invested in Stock A and 20% invested in Stock B?

- 15.8%
- 18.4%
- 22.0%
- 28.0%

**A** 30. Suppose Stock A has an expected return of 15%, a standard deviation of 20%, and a Beta of 0.4 while Stock B has an expected return of 25%, a standard deviation of 30% and a beta of 1.25, and the correlation between the two stocks is 0.25. What is the beta for a portfolio with 80% invested in Stock A and 20% invested in Stock B?

- 57
- 77
- 97
- 17

**A** 31. Suppose Stock A has an expected return of 15%, a standard deviation of 20%, and a Beta of 0.4 while Stock B has an expected return of 25%, a standard deviation of 30% and a beta of 1.25, and the correlation between the two stocks is 0.25. What is the covariance between Stock A and Stock B?

- 0.015
- 0.025
- 0.035
- 0.045

**C** 32. Suppose Stock A has an expected return of 15%, a standard deviation of 20%, and a Beta of 0.4 while Stock B has an expected return of 25%, a standard deviation of 30% and a beta of 1.25, and the correlation between the two stocks is 0.25. What is the percent invested in Stock A to yield the minimum standard deviation portfolio containing Stock A and Stock B?

- 25%
- 50%
- 75%
- 90%

** **

**C** 33. Suppose Stock A has an expected return of 15%, a standard deviation of 20%, and a Beta of 0.4 while Stock B has an expected return of 25%, a standard deviation of 30% and a beta of 1.25, and the correlation between the two stocks is 0.25. What is the expected return for a portfolio with 50% invested in Stock A and 50% invested in Stock B?

- 18%
- 19%
- 20%
- 21%

**B** 34. Suppose Stock A has an expected return of 15%, a standard deviation of 20%, and a Beta of 0.4 while Stock B has an expected return of 25%, a standard deviation of 30% and a beta of 1.25, and the correlation between the two stocks is 0.25. What is the standard deviation for a portfolio with 50% invested in Stock A and 50% invested in Stock B?

- 15%
- 20%
- 23%
- 25%

** **

**C** 35. Suppose Stock A has an expected return of 15%, a standard deviation of 20%, and a Beta of 0.4 while Stock B has an expected return of 25%, a standard deviation of 30% and a beta of 1.25, and the correlation between the two stocks is 0.25. What is the beta for a portfolio with 50% invested in Stock A and 50% invested in Stock B?

- 0.425
- 0.625
- 0.825
- 1.125

**B** 36. Suppose Stock M has an expected return of 10%, a standard deviation of 15%, and a Beta of 0.6 while Stock N has an expected return of 20%, a standard deviation of 25% and a beta of 1.04, and the correlation between the two stocks is 0.50. What is the expected return for a portfolio with 70% invested in Stock M and 30% invested in Stock N?

- 11%
- 13%
- 15%
- 17%

** **

**C** 37. Suppose Stock M has an expected return of 10%, a standard deviation of 15%, and a Beta of 0.6 while Stock N has an expected return of 20%, a standard deviation of 25% and a beta of 1.04, and the correlation between the two stocks is 0.50. What is the standard deviation for a portfolio with 70% invested in Stock M and 30% invested in Stock N?

- 5%
- 6%
- 7%
- 0%

**B** 38. Suppose Stock M has an expected return of 10%, a standard deviation of 15%, and a Beta of 0.6 while Stock N has an expected return of 20%, a standard deviation of 25% and a beta of 1.04, and the correlation between the two stocks is 0.50. What is the covariance between Stock M and Stock N?

- 01052
- 01875
- 03425
- 04775

**D** 39. Suppose Stock M has an expected return of 10%, a standard deviation of 15%, and a Beta of 0.6 while Stock N has an expected return of 20%, a standard deviation of 25% and a beta of 1.04, and the correlation between the two stocks is 0.50. What is the percent invested in Stock M to yield the minimum standard deviation portfolio containing Stock M and Stock N?

- 34%
- 55%
- 73%
- 92%

**A** 40. Suppose Stock M has an expected return of 10%, a standard deviation of 15%, and a Beta of 0.6 while Stock N has an expected return of 20%, a standard deviation of 25% and a beta of 1.04, and the correlation between the two stocks is 0.50. What is the expected return for a portfolio with 80% invested in Stock M and 20% invested in Stock N?

- 12%
- 14%
- 16%
- 18%

** **

**B** 41. Suppose Stock M has an expected return of 10%, a standard deviation of 15%, and a Beta of 0.6 while Stock N has an expected return of 20%, a standard deviation of 25% and a beta of 1.04, and the correlation between the two stocks is 0.50. What is the standard deviation for a portfolio with 80% invested in Stock M and 20% invested in Stock N?

- 2%
- 1%
- 3%
- 5%

**A** 42. Suppose Stock M has an expected return of 10%, a standard deviation of 15%, and a Beta of 0.6 while Stock N has an expected return of 20%, a standard deviation of 25% and a beta of 1.04, and the correlation between the two stocks is 0.50. What is the beta for a portfolio with 80% invested in Stock M and 20% invested in Stock N?

- 0.688
- 0.738
- 0.878
- 0.968

The next 8 questions relate to the following table of information:

Stock X Stock Y

Expected Return 14% 18%

Standard Deviation 40% 54%

Beta 1.20 1.50

Correlation (X,Y) = 0.25

**C** 43. What is the expected return for a portfolio with 60% invested in X and 40% invested in Y?

- 4%
- 9%
- 6%
- 1%

**B** 44. What is the standard deviation for a portfolio with 60% invested in X and 40% invested in Y?

- 4%
- 1%
- 2%
- 6%

**C** 45. What is the beta for a portfolio with 60% invested in X and 40% invested in Y?

- 12
- 22
- 32
- 42

**D** 46. What is the covariance between Stock X and Stock Y?

- 025
- 033
- 047
- 054

**D** 47. What is the percent invested in Stock X to yield the minimum variance portfolio with Stock X and Stock Y?

- 21
- 38
- 51
- 69

**D** 48. What is the expected return for a portfolio with 20% invested in X and 80% invested in Y?

- 9%
- 6%
- 5%
- 2%

**B** 49. What is the standard deviation for a portfolio with 20% invested in X and 80% invested in Y?

- 2%
- 8%
- 1%
- 6%

**D** 50. What is the beta for a portfolio with 20% invested in X and 80% invested in Y?

- 14
- 24
- 34
- 44

**Chapter Seventeen**

** **

**Principles of Options and Option Pricing**

**B **1. A famous option-pricing model was developed by

- Fisher and Lorie
- Black and Scholes
- Ingersoll and Rand
- Sharpe and Lintner

**A **2. A primary use of options in portfolio management is

- risk management
- meeting statutory requirements
- satisfying legal lists
- estate taxes

**B **3. The most common use of options by individuals is

- tax avoidance
- income generation
- arbitrage
- diversification

**C **4. Which of the following gives its owner the right to buy?

- Straddle
- Put option
- Call option
- Spread

**C **5. The price of an option is called its

- time value
- intrinsic value
- premium
- expiration value

**D **6. For most options, an individual investor views expiration day as the _____ of the month.

- first business day
- second Tuesday
- second Tuesday after the first Monday
- third Friday

**A **7. Writing an option is

- selling an option as an opening transaction
- selling an option as a closing transaction
- buying an option as an opening transaction
- buying an option as a closing transaction

**B **8. Who keeps the option premium no matter what?

- The Options Clearing Corporation
- The option writer
- The option buyer
- The option writer and the option buyer split it

**D **9. A stock priced at $55 per share will most likely have option striking prices _____ apart.

- $1
- $2
- $4
- $5

**B **10. The Options Clearing Corporation is most concerned with

- market risk
- credit risk
- interest rate risk
- political risk

**A **11. On which of the following exchanges are the fewest options traded?

- New York Stock Exchange
- Philadelphia Stock Exchange
- Chicago Board Options Exchange
- American Stock Exchange

** **

**B **12. The book used an example of call options and

- libraries
- hockey tickets
- automobile transmissions
- telephones

**B **13. Which of the following is correct?

- Intrinsic value – time value = option premium
- Intrinsic value + time value = option premium
- Intrinsic value = time value – option premium
- Intrinsic value = time value + option premium

**D **14. An option which can be exercised anytime is a(n)

- European option
- wildcard option
- Asian option
- American option

**C **15. An option contract usually covers ____ shares.

- 10
- 50
- 100
- 1000

**B **16. Option exercise is at the prerogative of the

- option writer
- option buyer
- either the option writer or the option buyer
- Options Clearing Corporation

**C **17. An increase in which of the following will cause a call option to decline in value?

- Volatility
- Underlying asset price
- Striking price
- Interest rates

**B **18. A person holds 2 XYZ APR 60 calls. What is their holding after a 2 for 1 stock split?

- 2 XYZ APR 60 calls
- 4 XYZ APR 30 calls
- 2 XYZ APR 30 calls
- 4 XYZ APR 60 calls

**D **19. All of the following are assumptions of the Black-Scholes option pricing model except

- markets are efficient
- no dividends
- interest rates are constant
- investors are generally bullish

**B **20. Delta is the

- theoretical value of an option
- expected change in the option value as the underlying asset price changes
- intrinsic value of the option
- influence of dividends on the option value

**C **21. For at-the-money stock options, put/call parity requires that, for otherwise similar options

- puts sell for more than calls
- puts sell for the same price as calls
- puts sell for less than calls
- puts sell for at least as much as calls

**A** 22. The delta of a call option can be calculated as part of the Black-Scholes model since it is equal to

- N(d
_{1}) - N(d
_{2}) - Ke
^{-rt} - d
_{2}

**B** 23. According to option pricing theory, a higher dividend payout would cause the call option premium to

- increase
- decrease
- remain the same
- any of the above can occur

**A** 24. According to option pricing theory, a higher dividend payout would cause the put option premium to

- increase
- decrease
- remain the same
- any of the above can occur

**A** 25. According to option pricing theory, a higher volatility would cause the call option premium to

- increase
- decrease
- remain the same
- any of the above can occur

**A** 26. According to option pricing theory, a higher volatility would cause the put option premium to

- increase
- decrease
- remain the same
- any of the above can occur

**C** 27. If the stock price is 54, the exercise price is 50, and the call premium is 7, what is the intrinsic value?

- 0
- 3
- 4
- 7

**B** 28. If the stock price is 54, the exercise price is 50, and the call premium is 7, what is the time value?

- 0
- 3
- 4
- 7

**A** 29. If the stock price is 54, the exercise price is 50, and the put premium is 1, what is the intrinsic value?

- 0
- 1
- 3
- 4

**B** 30. If the stock price is 54, the exercise price is 50, and the put premium is 1, what is the time value?

- 0
- 1
- 3
- 4

**B** 31. If the stock price is 27, the strike price is 30, and the call premium is 2, the intrinsic value is

- –2
- 0
- 2
- 3

**C** 32. If the stock price is 27, the strike price is 30, and the call premium is 2, the time value is

- –2
- 0
- 2
- 3

**C** 33. If the stock price is 27, the strike price is 30, and the put premium is 5, the intrinsic value is

- –3
- 0
- 3
- 4

**C** 34. If the stock price is 27, the strike price is 30, and the put premium is 5, the time value is

- –2
- 0
- 2
- 3

**B** 35. The delta for a call option will always satisfy which of the following conditions?

- –1 < delta
_{c}< 0 - 0 < delta
_{c}< 1 - –1 < delta
_{c}< 1 - delta
_{c}> 0

**A** 36. The delta for a put option will always satisfy which of the following conditions?

- –1 < delta
_{p}< 0 - 0 < delta
_{p}< 1 - –1 < delta
_{p}< 1 - delta
_{p}< 0

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