Capital Allocation to Risky Assets Chapter Quiz

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What are the two steps of portfolio construction?

Composition of risky portfolio and capital allocation between risky and risk-free assets

Define speculation in the context of risk and risk aversion.

Taking considerable risk for a commensurate gain

What do historical returns imply about investors?

Investors are risk averse

What are investors willing to consider in terms of utility values?

Risk-free assets and speculative positions with positive risk premiums Signup and view all the answers

How does portfolio attractiveness change with expected return and risk?

Increases with expected return and decreases with risk Signup and view all the answers

What happens when return increases with risk?

Portfolio attractiveness increases Signup and view all the answers

What is the formula for the utility function?

U = E(r) - 1/A * σ^2 Signup and view all the answers

How do risk-neutral investors judge risky prospects?

By their expected rates of return Signup and view all the answers

What type of investor is happy to engage in fair games and gambles?

Risk lover (A < 0) Signup and view all the answers

How can risk aversion be estimated?

Through questionnaires, observing individuals' decisions when confronted with risk, and observing how much people are willing to pay to avoid risk Signup and view all the answers

What is the Mean-Variance (M-V) Criterion for portfolio dominance?

Portfolio A dominates portfolio B if: E(rA) ≥ E(rB) and σA ≤ σB Signup and view all the answers

What is the simplest way to control risk in asset allocation?

Manipulating the fraction of the portfolio invested in risk-free assets versus the portion invested in the risky assets Signup and view all the answers

In the basic asset allocation example, what is the weight of the risky portfolio P in the complete portfolio?

0.7 Signup and view all the answers

What type of assets are considered risk-free in practice?

T-bills and money market funds Signup and view all the answers

Who can issue default-free securities?

Only the government Signup and view all the answers

What is the formula for the weight of risk-free assets in the complete portfolio?

1 - y Signup and view all the answers

Risk aversion and its estimation is a two-step process of portfolio ______

construction Signup and view all the answers

Composition of risky portfolio and capital allocation between risky and risk-free assets are key aspects of ______

investment Signup and view all the answers

Passive strategies and the capital market line (CML) are important concepts in the context of ______

portfolio management Signup and view all the answers

Historical returns imply that investors are ______

risk averse Signup and view all the answers

Investors are willing to consider risk-free assets and speculative positions with positive risk ______

premiums Signup and view all the answers

Portfolio attractiveness increases with expected return and decreases with ______

risk Signup and view all the answers

The utility function is given by $U = E(r) - \frac{1}{A}\sigma^2$. Here, $U$ represents the ______ function.

utility Signup and view all the answers

Risk-neutral investors judge risky prospects solely by their expected rates of return, without considering their ______.

risk aversion Signup and view all the answers

A risk lover, for whom $A < 0$, is happy to engage in fair games and gambles, adjusting the expected return upward to take into account the 'fun' of confronting the prospect’s ______.

risk Signup and view all the answers

The simplest way to control risk in asset allocation is to manipulate the fraction of the portfolio invested in ______ assets versus the portion invested in the risky assets.

risk-free Signup and view all the answers

The weight of the risky portfolio, $P$, in the complete portfolio is given by $y = \frac{\text{Total risk assets}}{\text{Total market value}}$. Here, $y$ represents the ______ of the risky portfolio.

weight Signup and view all the answers

A security is risk-free in real terms only if its price is indexed and maturity is equal to the investor’s holding period. T-bills are viewed as 'the' risk-free asset, and money market funds are also considered risk-free in ______.

practice Signup and view all the answers

The risk-free asset can only be issued by the ______.

government Signup and view all the answers

The Mean-Variance (M-V) Criterion states that portfolio $A$ dominates portfolio $B$ if: $E(r_A) \geq E(r_B)$ and $\sigma_A \leq \sigma_B$. Here, $A$ and $B$ represent the portfolios’ ______.

expected return and risk Signup and view all the answers

The choice among broad asset classes that represents a very important part of portfolio construction is known as ______ allocation.

asset Signup and view all the answers

The utility scores that would be assigned by each investor to each portfolio are presented in Table 6.2, with the portfolio receiving the highest utility score for each investor appearing as the ______ entry in each row.

bold Signup and view all the answers