Question

Can you explain the answers :)

Q1

Find the true statement in CAPM

I. Inefficient portfolios lie below the capital market line.

II. All securities on the security market line are efficiently diversified

III. Higher systematic risk leads to a higher expected return

A: I,II, and III

B:II and III

C: I and III

D: I and II

E: Only III

Choose the true statements of a portfolio from those that lie on the capital allocation line?

I: Less risk-averse investors will invest more in the risk-free security and less in the optimal risky portfolio than more risk-averse investors.

II: Less risk-averse investors will invest less in the risk-free security and more in the optimal risky portfolio than more risk-averse investors.

III: The final portfolio of an investor is where her highest possible indifference curve is tangent to her capital allocation line.

A: only I

B: Only II

C: Only III

D: II and III

E: I and III

Answer 1

ANSWER DOWN BELOW. FEEL FREE TO ASK ANY DOUBTS. THUMBS UP PLEASE.

Q1:

I. The capital market line is not related to CAPM. Security market line is related to CAPM.
II. IN SECURITY MARKET LINE, portfolios are efficiently price based on expected return and beta.
III. The security market line gives the formula of Capital Asset pricing model:

As per CAPM model:
Re= Rf+(Rm-Rf)B

Re= Expected rate of return.
Rf= Risk-free rate.
Rm = return on the market.
Rm-Rf =Market Risk Premium.
B = Beta, systematic risk.

Higher Beta, Higher Re.

Answer: B: II and III.

Q2:
A less risk-averse investor is willing to take more risk. Hence he invests less in risk-free asset and more in the optimal risky portfolio compared to the more risk-averse investor.

The portfolio of an investor lies on the capital allocation line.
If he is more risk-averse, it's below the tangent.
If he is less risk-averse, it's above the tangent.
If he is risk-neutral, its at the tangent.

Answer: B: Only II.