Combining two negatively correlated assets to reduce risk is known as

Table 5.1
Expected Return (%)
Year Asset A Asset B Asset C
1 6 8 6
2 7 7 7
3 8 6 8

31. The portfolio with a standard deviation of zero (See Table 5.1)
(a) is comprised of Assets A and B.
(b) is comprised of Assets A and C.
(c) is not possible.
(d) cannot be determined.
Answer: A
Level of Difficulty: 4
Learning Goal: 3
Topic: Portfolio Standard Deviation (Equation 5.3a)
32. Combining two negatively correlated assets to reduce risk is known as
(a) diversification.
(b) valuation.
(c) liquidation.
(d) risk aversion.
Answer: A
Level of Difficulty: 2
Learning Goal: 4
Topic: Correlation and Portfolio Risk
33. In general, the lower (less positive and more negative) the correlation between asset
returns,
(a) the less the potential diversification of risk.
(b) the greater the potential diversification of risk.
(c) the lower the potential profit.
(d) the less the assets have to be monitored.
Answer: B
Level of Difficulty: 3
Learning Goal: 4
Topic: Correlation and Portfolio Risk

34. Combining positively correlated assets having the same expected return results in a
portfolio with _________ level of expected return and _________ level of risk.
(a) a higher; a lower
(b) the same; a higher
(c) the same; a lower
(d) a lower; a higher
Answer: B
Level of Difficulty: 3
Learning Goal: 4
Topic: Correlation and Portfolio Risk
35. Combining two assets having perfectly negatively correlated returns will result in the
creation of a portfolio with an overall risk that
(a) remains unchanged.
(b) decreases to a level below that of either asset.
(c) increases to a level above that of either asset.
(d) stabilizes to a level between the asset with the higher risk and the asset with the
lower risk.
Answer: B
Level of Difficulty: 4
Learning Goal: 4
Topic: Correlation and Portfolio Risk
36. Combining two assets having perfectly positively correlated returns will result in the
creation of a portfolio with an overall risk that
(a) remains unchanged.
(b) decreases to a level below that of either asset.
(c) increases to a level above that of either asset.
(d) stabilizes to a level between the asset with the higher risk and the asset with the
lower risk.
Answer: D
Level of Difficulty: 4
Learning Goal: 4
Topic: Correlation and Portfolio Risk
37. Systematic risk is also referred to as
(a) diversifiable risk.
(b) economic risk.
(c) nondiversifiable risk.
(d) not relevant.
Answer: C
Level of Difficulty: 1
Learning Goal: 5
Topic: Diversifiable and Nondiversifiable Risk
38. The purpose of adding an asset with a negative or low positive beta is to
(a) reduce profit.
(b) reduce risk.
(c) increase profit.
(d) increase risk.
Answer: B
Level of Difficulty: 1
Learning Goal: 5
Topic: Beta and Systematic Risk
39. The beta of the market
(a) is greater than 1.
(b) is less than 1.
(c) is 1.
(d) cannot be determined.
Answer: C
Level of Difficulty: 1
Learning Goal: 5
Topic: Beta and Systematic Risk
40. Risk that affects all firms is called
(a) total risk.
(b) management risk.
(c) nondiversifiable risk.
(d) diversifiable risk.
Answer: C
Level of Difficulty: 1
Learning Goal: 5
Topic: Diversifiable and Nondiversifiable Risk