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Historical Average Return 25% 20% 15% 10% 5% Corporate Bonds Treasury Bills S&P 500 World Portfolio Mid-Cap Stocks Small Stocks 8.5% historical excess return of S&P 500 over TBills 0% 0% 5% 10% 15% 20% 25% 30% 35% 40% 45% 50% Historical Volatility (standard deviation) Which of the following correctly explains this relationship? O Investors perceive big portfolios differently from individual stocks and are not concerned about the amount of systematic risk for big portfolios. O Big portfolios are well diversified so that they do not contain independent risks. As a result, their volatility indicates the amount of systematic risks. This linear relationship indicates the incorrect valuation by investors. They should have taken only systematic risks into account in determining the required return.

Historical Average Return 25% 20% 15% 10% 5% Corporate Bonds Treasury Bills S&P 500 World Portfolio Mid-Cap Stocks Small Stocks 8.5% historical excess return of S&P 500 over TBills 0% 0% 5% 10% 15% 20% 25% 30% 35% 40% 45% 50% Historical Volatility (standard deviation) Which of the following correctly explains this relationship? O Investors perceive big portfolios differently from individual stocks and are not concerned about the amount of systematic risk for big portfolios. O Big portfolios are well diversified so that they do not contain independent risks. As a result, their volatility indicates the amount of systematic risks. This linear relationship indicates the incorrect valuation by investors. They should have taken only systematic risks into account in determining the required return.

Essentials Of Investments
Essentials Of Investments
11th Edition
ISBN:9781260013924
Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Chapter1: Investments: Background And Issues
Section: Chapter Questions
Problem 1PS
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We have learned that independent risks are diversifiable, so investors require compensation only for systematic risks. However, when it comes to big portfolios, there is a clear relationship between volatility and average returns, as below. Historical Average Return 25% 20% 15% 10% 5% 0% Corporate Bonds Treasury Bills 0% 5% 10% S&P 500 World Portfolio Mid-Cap Stocks Small Stocks 8.5% historical excess return of S&P 500 over TBills 15% 20% 25% 30% 35% 40% 45% 50% Historical Volatility (standard deviation) Which of the following correctly explains this relationship? Investors perceive big portfolios differently from individual stocks and are not concerned about the amount of systematic risk for big portfolios. Big portfolios are well diversified so that they do not contain independent risks. As a result, their volatility indicates the amount of systematic risks. This linear relationship indicates the incorrect valuation by investors. They should have taken only systematic risks into account in determining the required return.
Transcribed Image Text:We have learned that independent risks are diversifiable, so investors require compensation only for systematic risks. However, when it comes to big portfolios, there is a clear relationship between volatility and average returns, as below. Historical Average Return 25% 20% 15% 10% 5% 0% Corporate Bonds Treasury Bills 0% 5% 10% S&P 500 World Portfolio Mid-Cap Stocks Small Stocks 8.5% historical excess return of S&P 500 over TBills 15% 20% 25% 30% 35% 40% 45% 50% Historical Volatility (standard deviation) Which of the following correctly explains this relationship? Investors perceive big portfolios differently from individual stocks and are not concerned about the amount of systematic risk for big portfolios. Big portfolios are well diversified so that they do not contain independent risks. As a result, their volatility indicates the amount of systematic risks. This linear relationship indicates the incorrect valuation by investors. They should have taken only systematic risks into account in determining the required return.
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