Question

Which of the following statements is false? A When a stock’s alpha is not zero, investors...

Which of the following statements is false?

A

When a stock’s alpha is not zero, investors can improve upon the performance of the market portfolio.

B

An important conclusion of the CAPM is that only sophisticated investors with superior trading skills should hold the market portfolio (combined with risk-free investments).

C

The Sharpe ratio of a portfolio will increase if the investor buys stocks whose expected returns exceed their required returns, that is, if he buys stocks with positive alphas.

D

The Sharpe ratio of a portfolio will decrease if the investor buys stocks with negative alphas.

E

None of the above

Homework Answers

Answer #1

Statement b is FALSE.

An important conclusion of the CAPM is that only sophisticated investors with superior trading skills should hold the market portfolio (combined with risk-free investments).

CAPM does not draw such conclusion. In fact, any investor can hold the market portfolio, which is an efficient portfolio.

The other statements are TRUE

  • When the alpha of a stock is not equal to zero, the performance of the market can be improved. Investors can look for stocks that generate positive alpha.
  • The Sharpe ratio increases with including stocks that have positive alpha
  • The Sharpe ratio decreases with including stocks that have negative alpha
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