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Chapter 11
1.
In the context of investments in securities (stocks and bonds), portfolio risk
diversification refers to:
a)
the time-honored adage “Don’t put all your eggs in one basket”
b)
investors’ ability to reduce portfolio risk by holding securities that are less than perfectly
positively correlated
c)
the fact that the less correlated the securities in a portfolio, the lower the portfolio risk
d)
all of the above
Answer: d
2.
Systematic risk is:
a)
nondiversifiable risk
b)
the risk that remains even after investors fully diversify their portfolio holdings
c)
a and b
d)
none of the above
Answer: c
3.
The “world beta” measures the
a)
unsystematic risk
b)
sensitivity of returns on a security to world market movements
c)
risk-adjusted performance
d)
risk of default and bankruptcy
Answer: b
4.
The “Sharpe performance measure” (SHP) is:
a)
a “risk-adjusted” performance measure
b)
the excess return (above and beyond the risk-free interest rate) per standard deviation
risk
c)
the sensitivity level of a national market to world market movements
d)
a and b
Answer: d
5.
Exchange rate fluctuations contribute to the risk of foreign investment through
three possible channels:
(i)- the volatility of the investment due to the volatility of the exchange rate
(ii)- the contribution of the cross-product term
(iii)- its covariance with the local market returns
Which of the following contributes and accounts for most of the volatility?
a)
(i) and (ii)
b)
(ii) and (iii)
c)
(i) and (iii)
d)
only (ii)
Answer: c
6.
The mean and standard deviation (SD) of monthly returns, over a given period of
time, for the stock markets of two countries, X and Y are
Country
X
Y
Mean (%)
1.57
1.92
SD (%)
4.87
7.64
Assuming that the monthly risk-free interest rate is 0.25%,the Sharpe performance
measures, SHP(X) and SHP(Y) are:
SHP(X) =(1.57%-0.25%)÷4.87%= 0.271, and SHP(Y) = (1.92%-0.25%)÷7.64%=0.219
7.
The realized dollar returns for a U.S. resident investing in a foreign market will
depend on the return in the foreign market as well as on the exchange rate
fluctuations between the dollar and the foreign currency.
Calculate the variance of the monthly rate of return in dollar terms, if the variance
of the foreign market’s return (in terms of its own currency) is 1.14, the variance
between the U.S. dollar and the foreign currency is 17.64, the covariance is 2.34,
and the contribution of the cross-product term is 0.04.
Var(i,$) = 1.14 + 17.64 + 2 x 2.34 + 0.04= 23.50
8.
Emerald Energy is an oil exploration and production company that trades on the
London stock market. Assume that when purchased by an international investor
the stock’s price and the exchange rate were £5 and £0.65/$1.00 respectively. At
selling time, one year after the purchase date, they were £5.4 and £0.55/$1.00.
Calculate the investor’s annual percentage rate of return in terms of the U.S.
dollars.
Purchase price in U.S. dollars = £5.0/0.65 = $7.69
Selling price in U.S. dollars = £5.4/0.55 = $9.82
Therefore, the dollar rate of return is: R($) = [(9.82 - 7.69)/7.69] x 100 = 28%
 5.4  5 
1 
 1
5 

1
0.55
 0.165 
  1  27.44%
1

0.65
