What is it? Analyze the opportunity graphically. 8. The SML relationship states that the expected risk premium on a security in a one- factor model must be directly proportional to the securitys beta. Suppose that this were not the case. For example, suppose that expected return rises more than proportionately with beta as in the figure below.     E(r)       B           C     A   III. Equilibrium In Capital Markets 11. Arbitrage Pricing Theory The McGraw−Hill Companies, 2001           CHAPTER 11 Arbitrage Pricing Theory 337     a. How could you construct an arbitrage portfolio? (Hint: Consider combinations of Portfolios A and B, and compare the resultant portfolio to C.) b. We will see in Chapter 13 that some researchers have examined the relationship between average return on diversified portfolios and the and 2 of those portfo- lios. What should they have discovered about the effect of 2 on portfolio return? 9. If the APT is to be a useful theory, the number of systematic factors in the economy must be small. Why? 10. The APT itself does not provide guidance concerning the factors that one might expect to determine risk premiums. How should researchers decide which factors to investi- gate? Why, for example, is industrial production a reasonable factor to test for a risk premium? 11. Consider the following multifactor (APT) model of security returns for a