Chapter 2: Q2B. (page 224)
Consider the statement: “If we can identify a portfolio that beats the S&P 500 Index portfolio, then we should reject the single-index CAPM.” Do you agree or disagree? Explain.
They may prove superior to the single-index model but are not practical.
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Which of the following statements about the security market line (SML) are true?
a. The SML provides a benchmark for evaluating expected investment performance.
b. The SML leads all investors to invest in the same portfolio of risky assets.
c. The SML is a graphic representation of the relationship between expected return and beta.
d. Properly valued assets plot exactly on the SML.
If the simple CAPM is valid, which of the situations in Problems 13 – 19 below are possible? Explain. Consider each situation independently.
Two investment advisers are comparing performance. One averaged a 19% return and the other a 16% return. However, the beta of the first adviser was 1.5, while that of the second was 1.
a. Can you tell which adviser was a better selector of individual stocks (aside from the issue of general movements in the market)?
b. If the T-bill rate were 6% and the market return during the period were 14%, which adviser would be the superior stock selector?
c. What if the T-bill rate were 3% and the market return 15%?
Suppose you’ve estimated that the fifth-percentile value at risk of a portfolio is -30%. Now you wish to estimate the portfolio’s first-percentile VaR (the value below which lie 1% of the returns). Will the 1% VaR be greater or less than -30%?
Probabilities for three states of the economy and probabilities for the returns on a particular stock in each state are shown in the table below:
Question: What is the probability that the economy will be neutral and the stock will experience poor performance?
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