Final answer:
An anticipated recession would lead to an increase in the slope of the Securities Market Line (SML), particularly affecting high beta stocks like Citi Bank, which would require higher returns to compensate for the increased perceived risk.
Step-by-step explanation:
As it pertains to the effect of an anticipated recession on Citi Bank's position on the Securities Market Line (SML) and the SML itself, the correct answer is (b) the slope of the SML increases (the risk premiums on high beta stocks increasing the most). The SML represents the expected return of a security given its systemic risk, as measured by beta. In the event of an anticipated recession, investors would require a higher return to compensate for the increased risk, especially for stocks with a high beta like Citi Bank, which is expected to be more impacted by the recession than other firms due to its balance sheet structure.
During periods of economic change, such as the late 1990s technology boom or the 2008 and 2009 Great Recession, businesses adjust their demand for financial capital according to their expectations of future returns. In times of optimism, the demand shifts right as businesses anticipate higher returns, leading to a possible shift in the SML to reflect the increased willingness to invest at current interest rates. Conversely, during a recession, as businesses become more cautious, their demand for financial capital shifts left, and the SML reflects higher risk premiums for systemic risk.
The change in the perceived riskiness of Citi Bank's future stock returns would not cause the entire line to shift up uniformly; instead, it would alter the risk premium required for stocks with similar levels of systematic risk. This resulted in a steeper SML, indicating that for a given level of systematic risk (beta), a higher return is now required, with high beta stocks like Citi Bank requiring an even greater increase in expected returns to compensate for the heightened perceived risk.