Portfolio theory, risk and return, and asset allocation concepts tested on CFA Level 1.
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- What is portfolio management?
- The process of combining assets to achieve an investor's risk and return objectives.
- What effect does diversification have on unsystematic risk?
- It reduces or eliminates unsystematic risk.
- What is systematic risk?
- Risk inherent to the entire market that cannot be eliminated through diversification.
- What is unsystematic risk?
- Risk specific to an individual company or industry that can be eliminated through diversification.
- How is an asset's total risk decomposed?
- Total risk equals systematic risk plus unsystematic risk.
- What does beta measure?
- An asset's systematic risk relative to the overall market.
- Under the CAPM, expected return equals the risk-free rate plus beta times the ____.
- market risk premium
- In the CAPM formula, what does the risk-free rate represent?
- The return on an asset with no default or reinvestment risk, the baseline compensation for time.
- What is the market risk premium?
- The expected market return minus the risk-free rate.
- What does the Security Market Line (SML) plot?
- Expected return against beta for individual securities or portfolios.
- What does the Capital Market Line (CML) plot?
- Expected return against standard deviation for efficient portfolios combining the risk-free asset and the market portfolio.
- What is the Capital Allocation Line (CAL)?
- A line showing risk-return combinations from mixing a risk-free asset with a single risky portfolio.
- What is the efficient frontier?
- The set of portfolios offering the highest expected return for each level of risk.
- What is the minimum-variance portfolio?
- The portfolio on the efficient frontier with the lowest possible risk.
- What is the optimal risky portfolio also called?
- The tangency portfolio, where the CAL is tangent to the efficient frontier.