Question

1. One major benefit of the index model method of building a portfolio is:
   1. It typically generates a portfolio with a better Sharpe Ratio
   2. It takes into account the investor’s attitudes towards risk
   3. It is less computationally expensive
   4. It explains more of the market return’s variance
2. According to CAPM, who should buy the market portfolio?
   1. Everyone
   2. No one
   3. Risk neutral investors
   4. Highly risk-averse investors
3. For APT to generate correct prices, we need:
   1. All investors to be rational
   2. A few wealthy investors able to find and take advantage of arbitrages
   3. To only use it to price portfolios, not individual assets
   4. All investors to have the same beliefs about asset prices
4. In an efficient market,
   1. All investors will earn the same return
   2. It will be hard or impossible to earn a better risk-adjusted return than everyone else
   3. All relevant information is made available to the public
   4. Active managers have a significant advantage over passive managers

Answer 1

1. THE MAIN ADVANTAGES OF THE INDEX MODEL AS COMPARED TO THE MARKOWITZ MODEL IS THAT IS EASIER TO IMPLEMENT SINCE IT USES LESS COMPUTATION FIGURES.THE MARKOWITZ USES STANDARD DEVIATIONS, EXPECTED RETURNS AND COVARIANCE OF ALL INDIVIDUAL SECURITIES AND THUS IT IS A TEDIOUS JOB TO DO ON THE CONTRARY THE INDEX MODEL IS A FAST METHOD REQUIRING LESS DATA WITHOUT COMPROMISING THE EFFECTIVENESS.ALL THE OTHER ADVANTAGES ARE OVERLAPPING WITH THE MARKOWITZ AND OTHER MODELS ALSO. THUS OPTION ''C'' IS CORRECT

2.The market portfolio is an essential component of the capital asset pricing model (CAPM). Widely used for pricing assets, especially equities, the CAPM shows what an asset's expected return should be based on its amount of systematic risk. The relationship between these two items is expressed in an equation called the security market line. The equation for the security market line is expected or required return = R(f) + B x ((R(m) - R(f))

Where:

R = expected return

R(f) = the risk-free rate

R(m) = the expected return of the market portfolio

βc = the beta of the asset in question versus the market portfolio

HENCE THE MARKET PORTFOLIO INVOLVES TAKING RISK AND THUS GET THE MARKET PREMIUM AND IT IS SUGGESTED THAT MARKET PORTFOLIO SHOULD BE BROUGHT BY '' RISK AVERSE INVESTORS'' AND THUS OTHER OPTIONS ARE NOT IN LINE WITH THE ASSUMPTION OF CAPM. ''D'' IS CORRECT

3.Efficient market hypothesis is based on several assumptions. It also assumes that all relevant information is reflected in the stock markets. Efficient market hypothesis assumes a financial security is always priced correctly. Furthermore, this implies that stocks are never undervalued or overvalued. It also implies that investors can never consistently outperform the overall market, or “beat the market,” by employing investment strategies.

HENCE THE OPTION ''B'' IS COUNFUSING US AS PER THE HYPOTHESIS BUT HERE WE HAVE TO COMPARE WITH THE MARKET AND NOT OTHERS OPTIONS ''A AND ''D'' ARE NOT AT ALL CORRECT AS PER THE ASSUMTION HENCE WE SHALL GO BY THE OPTION ''C'' SINCE IT STANDS TRUE IN THE STRONG FORM EFFICIENT MARKET