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1. Ms Brown has an investment portfolio comprising Australian shares.

At a meeting with her investment advisor she requests explanations

of the following:
(a)the definition of systematic risk and unsystematic risk and an
explanation of factors that are responsible for the two types of
In its basic form, risk comprises components of probability, variance,
volatility and uncertainty. Probability is a statistical estimate of a variance
in an expected outcome. Volatility relates to the degrees of change that
historically have occurred in outcomes overtime and uncertainty is the
possibility that an unexpected outcome might occur.
a. Systematic risk is exposures of a share portfolio to changes in the
environment thathave the effect of impacting the majority of shares
listed on a stock exchange. For example, changes in interest rates,
exchange rates or economic activity.
b. Unsystematic risk relates to exposures that specifically affect the
share price of a particular corporation. For example, loss of key
personnel or systems, or a downgrade of performance forecasts.
(b)what is the rationale behind the assertion that an investor should
not expect to be rewarded for the unsystematic risk element in a
share portfolio?
An investor is able to minimise unsystematic risk by holding a diversified
investment portfolio; for example, a portfolio of shares, property and fixed
interest investments. Within the share portfolio the investor can hold
shares in a number of companies, a range of industry sectors, and across
different countries.
Therefore, as investors are able to hold diversified investment portfolios,
prices will not incorporate a significant risk component for unsystematic
2. An investor holds the following shares in an investment portfolio
Beta 1.2
Beta 0.95
ANZ Bank
Beta 1.05
(a)What does each beta coefficient imply about the volatility of each
companys shares relative to the overall market?
a. Beta is the amount of systematic risk that is present in a particular
share relative to the share market as a whole.
b. The market has a beta of 1.0.
c. In the above portfolio, JB Hi Fi and ANZ have betas greater than
1.00. As such, they are more JB Hi Fis price will increase (decrease)
by 12 per cent or 1.20 times as much. Following the same market
movement, ANZ shares will increase (decrease) in price by 1.05
times as much or, in this case, by 10.50 per cent. Because Telstra
has a beta of 0.95, it will move less than proportionally with the
(b)What is the portfolios beta?

(d)If the investor added to the portfolio with the purchase of $5000
worth of shares in Myer (beta 1.60), what impact would that
purchase have on the risk structure of the portfolio? (LO 6.1)

3. As an investment adviser for a managed fund that invests in

Australian resources shares, you must advise clients on the funds
strategy of passive investment. Analyse and explain the concept of
passive investment to your client , and describe how the fund
manager uses an index fund to achieve a specific performance
outcome. (LO 6.1)
a. Passive investment involves the selection of shares in an investment
portfolio based on shares included in a published stock market index,
that is, a managed fund share portfolio is structured to replicate a
specific share market index.
b. An index is a grouping of shares listed on a stock exchange that shows
changes in the overall prices of those shares day to day.
c. Each stock market has its own set of indices. Well known international
indices include the Dow Jones Industrial Average (USA), FTSE (UK),
Nikkei 225 (Japan), and Hang Seng (Hong Kong). If a passive investor
wishes to obtain returns on a share portfolio equal to the return
achieved by the Dow Jones then the investor will purchase the thirty
stocks included in that index.
d. Another investor may replicate a sector index such as the
telecommunications sector, or the industrials sector.
e. A number of managed funds are index funds. Index funds use a range
of sophisticated techniques to replicate or track the share market,
including full or partial replication of a specified stock market index.
f. Full replication occurs when a funds manager purchases all the stocks
included in an index. However, with a large index such as the S&P500,
the funds manager may only hold a percentage of the 500 stocks, so
long as sufficient stocks are held to ensure the portfolio fundamentally
tracks the index.
g. The funds manager buys and sells shares in order to maintain the
replication of the index over time