Portfolio Theory MCQs 2026

As the number of well-chosen stocks in a portfolio increases, its total risk

1. A rises without limit ✓
2. B becomes exactly zero ✓
3. C equals the average single-stock risk ✓
4. D approaches the market (systematic) risk level ✓

Portfolio theory assumes investors make decisions based on

1. A market rumors ✓
2. B past prices only ✓
3. C expected return and risk (variance) ✓
4. D coupon payment dates ✓

The primary benefit of holding many uncorrelated assets is

1. A higher management fees ✓
2. B risk reduction without necessarily sacrificing return ✓
3. C a guaranteed profit ✓
4. D elimination of market risk ✓

The efficient frontier is drawn in a diagram of expected return versus

1. A beta ✓
2. B time ✓
3. C risk (standard deviation) ✓
4. D dividends ✓

International diversification can reduce risk because foreign markets are

1. A always higher returning ✓
2. B risk-free ✓
3. C perfectly correlated with the home market ✓
4. D often imperfectly correlated with the home market ✓

Home bias refers to investors' tendency to

1. A over-invest in domestic securities ✓
2. B hold only foreign assets ✓
3. C avoid equities entirely ✓
4. D hold only cash ✓

The risk that cannot be diversified away is measured by

1. A standard deviation ✓
2. B variance ✓
3. C the coefficient of variation ✓
4. D beta ✓

A negative correlation between two assets means their returns tend to

1. A move together ✓
2. B stay constant ✓
3. C move in opposite directions ✓
4. D be identical ✓

The dominance principle implies that an investor prefers a portfolio with

1. A higher return for the same risk, or lower risk for the same return ✓
2. B higher risk in all cases ✓
3. C the largest number of assets ✓
4. D the lowest possible return ✓

Modern Portfolio Theory was pioneered by

1. A Adam Smith ✓
2. B John Maynard Keynes ✓
3. C Irving Fisher ✓
4. D Harry Markowitz ✓

The expected return of a portfolio is the

1. A simple sum of individual asset returns ✓
2. B weighted average of the expected returns of its assets ✓
3. C highest asset return ✓
4. D lowest asset return ✓

Diversification primarily reduces a portfolio's

1. A unsystematic (specific) risk ✓
2. B systematic risk ✓
3. C expected return ✓
4. D market risk ✓

Portfolio risk depends not only on individual variances but also on the

1. A number of dividends paid ✓
2. B coupon rates ✓
3. C covariances (correlations) between the assets ✓
4. D face values ✓

Within the CAPM framework, the measure of risk for an individual asset is

1. A variance ✓
2. B beta ✓
3. C standard deviation ✓
4. D covariance with itself ✓

Two assets with a correlation coefficient of positive one provide

1. A no diversification benefit ✓
2. B maximum diversification ✓
3. C zero risk ✓
4. D negative risk ✓

The expected return on the market portfolio is generally

1. A equal to the risk-free rate ✓
2. B zero ✓
3. C higher than the risk-free rate ✓
4. D negative ✓

The greatest diversification benefit occurs when two assets have a correlation of

1. A positive one ✓
2. B zero ✓
3. C negative one ✓
4. D positive one half ✓

The efficient frontier represents portfolios offering the

1. A lowest return for each level of risk ✓
2. B highest expected return for each level of risk ✓
3. C highest risk in all cases ✓
4. D zero risk ✓

A well-diversified portfolio has essentially eliminated

1. A systematic risk ✓
2. B unsystematic risk ✓
3. C market risk ✓
4. D all risk ✓

Rebalancing a portfolio means

1. A restoring the original target weights after prices change ✓
2. B selling every holding ✓
3. C never trading again ✓
4. D buying only brand-new assets ✓

Asset allocation refers to

1. A picking individual stocks only ✓
2. B timing single trades ✓
3. C choosing a stockbroker ✓
4. D dividing investments among asset classes such as equities, bonds and cash ✓

Active portfolio management seeks to

1. A outperform a benchmark through selection and timing ✓
2. B exactly replicate an index ✓
3. C hold only cash ✓
4. D avoid all equities ✓

Passive portfolio management typically involves

1. A frequent individual stock picking ✓
2. B tracking a market index ✓
3. C aggressive market timing ✓
4. D short-term day trading ✓

A portfolio with a beta of 1.0 is expected to

1. A be risk-free ✓
2. B consistently outperform the market ✓
3. C be uncorrelated with the market ✓
4. D move in line with the market ✓

The market risk premium is the difference between the expected market return and the

1. A inflation rate ✓
2. B dividend yield ✓
3. C risk-free rate ✓
4. D coupon rate ✓

According to CAPM, the only risk rewarded with higher expected return is

1. A total risk ✓
2. B unsystematic risk ✓
3. C firm-specific risk ✓
4. D systematic (market) risk ✓

The correlation coefficient always lies between

1. A negative one and positive one ✓
2. B zero and one ✓
3. C negative one hundred and positive one hundred ✓
4. D one and ten ✓

Covariance measures

1. A the average return ✓
2. B the risk-free rate ✓
3. C how two assets' returns move together ✓
4. D total portfolio value ✓

If two assets are perfectly negatively correlated, it is theoretically possible to build a portfolio with

1. A maximum risk ✓
2. B zero risk ✓
3. C infinite return ✓
4. D negative return ✓

The portfolio on the efficient frontier with the lowest possible risk is the

1. A tangency portfolio ✓
2. B market portfolio ✓
3. C zero-beta portfolio ✓
4. D global minimum-variance portfolio ✓

The coefficient of variation measures

1. A total return ✓
2. B beta ✓
3. C risk per unit of return ✓
4. D correlation ✓

The idea that choosing the optimal risky portfolio is independent of investor risk preferences is called the

1. A efficient market hypothesis ✓
2. B dividend irrelevance theory ✓
3. C random walk theory ✓
4. D separation theorem ✓

Under the capital market line, the optimal risky portfolio for all investors is

1. A different for every investor ✓
2. B the same market portfolio ✓
3. C the minimum-variance portfolio ✓
4. D the risk-free asset ✓

A rational risk-averse investor will choose a portfolio

1. A below the efficient frontier ✓
2. B on the efficient frontier ✓
3. C with maximum variance ✓
4. D made of a single asset ✓

Combining a risk-free asset with risky portfolios generates the

1. A security market line ✓
2. B efficient frontier of risky assets ✓
3. C indifference curve ✓
4. D capital allocation (capital market) line ✓

A more risk-averse investor will have indifference curves that are

1. A steeper ✓
2. B flatter ✓
3. C horizontal ✓
4. D downward sloping ✓

An investor's indifference curves in mean-variance space represent

1. A equal returns only ✓
2. B combinations of risk and return giving equal utility ✓
3. C the efficient frontier ✓
4. D the risk-free rate ✓

The variance of a two-asset portfolio depends on the weights, the variances, and the

1. A covariance between the two assets ✓
2. B dividend yields ✓
3. C coupon rates ✓
4. D P/E ratios ✓

Total risk of a security equals

1. A beta only ✓
2. B unsystematic risk only ✓
3. C systematic risk plus unsystematic risk ✓
4. D covariance only ✓

The Capital Market Line measures risk on its horizontal axis using

1. A beta ✓
2. B covariance ✓
3. C standard deviation (total risk) ✓
4. D the coefficient of variation ✓

The point where the capital market line is tangent to the efficient frontier is the

1. A market (tangency) portfolio ✓
2. B minimum-variance portfolio ✓
3. C risk-free asset ✓
4. D zero-beta portfolio ✓

The Sharpe ratio measures excess return per unit of

1. A beta ✓
2. B covariance ✓
3. C total risk (standard deviation) ✓
4. D correlation ✓

The Treynor ratio measures excess return per unit of

1. A beta (systematic risk) ✓
2. B total risk ✓
3. C variance ✓
4. D correlation ✓

Jensen's alpha measures a portfolio's

1. A total risk ✓
2. B beta ✓
3. C standard deviation ✓
4. D return in excess of that predicted by the CAPM ✓

The beta of a portfolio is the

1. A sum of the individual asset betas ✓
2. B weighted average of the betas of its component assets ✓
3. C highest asset beta ✓
4. D always equal to one ✓