The S&P 500 Index is one of the most commonly used benchmark indices for the U. S. equity markets. Consisting of 500 companies, it is a market value-weighted index. This means that each company's performance is reflected in the index, weighted by the ratio of the company's value to the total value of all the companies. Based on your understanding of P/E ratios, in which of the following situations would the average trailing P/E ratio (current price divided by earnings per share over the previous 12 months) of the S&P 500 Index be higher?
a. The outlook for the economy and the markets is for a downturn.
b. The outlook for the economy and the markets is for improvement.
You invest $100,000 in 40 stocks, 20 bonds, and a certificate of deposit (CD). What kind of risk will you primarily be exposed to?
a. Stand-alone risk
b. Portfolio risk
Generally, investors would prefer to invest in assets that have:
a. A higher-than-average expected rate of return given the perceived risk
b. A lower-than-average expected rate of return given the perceived risk

The average P / E ratio would be higher when the outlook for the economy and markets predict an improvement

The type of risk you will be exposed to portfolio risk

Investors would prefer to invest in assets that have a higher-than-average expected rate of return given the perceived risk

The price to earning ratio is a financial valuation metric. It compares the price of a stock to the earnings of the stock.  

Price to earning ratio (P / E) = market value per share / earnings per share

Types of P/E ratio

Factors that affect the P/E ratio

Portfolio risk is the risk inherent in a portfolio. A portfolio is group of investment. The certificate of deposit, bonds and stocks constitute a portfolio

A rational investor would prefer an asset that has a higher expected return when compared with its risk. This means that the investment would be profitable.

For example, if an investor is presented with a group of Sharpe ratios for an investment, the investor is likely to choose the investment with the highest Sharpe ratio.

Sharpe ratio = expected return / standard deviation

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