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Chapter 17: Q7. (page 369)

If an investment has 35 percent more non-diversifiable risk than the market portfolio, its beta will be:

  1. 35

  2. 1.35

  3. 0.35

Short Answer

Expert verified

The correct option is (b): 1.35

Step by step solution

01

Step 1. Explanation

The non-diversifiable risk of a market portfolio is calculated as beta. The beta compares the non-diversifiable risk of a portfolio with the market portfolio. The beta for the market portfolio is 1, and the non-diversifiable risk is 35% more than the market portfolio. Thus, the beta will be 1.35 (=1 + 0.35).

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Most popular questions from this chapter

What is compound interest? How does it relate to the formula Xt = (1 + i)t X0? What is present value? How does it relate to the formula Xt/(1 + i)t = X0?

Why is it reasonable to ignore diversifiable risk and care only about non-diversifiable risk? What about investors who put all their money into only a single risky stock? Can they properly ignore diversifiable risk?

Why is it so hard for actively managed funds to generate higher rates of return than passively managed index funds having similar levels of risk? Is there a simple way for an actively managed fund to increase its average expected rate of return?

Suppose that an SML indicates that assets with a beta = 1.15 should have an average expected rate of return of 12 percent per year. If a particular stock with a beta = 1.15 currently has an average expected rate of return of 15 percent, what should we expect to happen to its price?

  1. Rise.

  2. Fall.

  3. Stay the same.

Suppose that the equation for the SLM is Y = 0.05 + 0.04X, where Y is the average expected rate of return, 0.05 is the vertical intercept, 0.04 is the slope, and X is the risk level as measured by beta. What is the risk-free interest rate for this SML? What is the average expected rate of return at a beta of 1.5? What is the value of beta at an average expected rate of return is 7 percent?
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