Final answer:
When an asset has a much lower return given its risk than other assets, its price will adjust, typically increasing to balance the risk-return tradeoff with the market. Therefore correct option is D
Step-by-step explanation:
If one asset has a much lower return given its risk compared to other assets, the market will adjust to bring its risk-return tradeoff into line with other market assets. The way this happens is through changes in the asset's price. Specifically, the correct answer is that d) its prices will increase. If an asset offers a lower return than its risk would merit, investors are likely to sell that asset, causing its price to drop until it offers a more attractive risk-return profile. Conversely, if the asset offers a higher return for its risk level, more investors will want to buy it, driving up the price until the risk-return balance is aligned with the market.
Accordingly, when investors shift their funds away from assets with poor risk-return profiles to those with better ones, the supply and demand for these assets change, influencing their prices. As the price of an underperforming asset drops, its yield (return divided by price) increases, which can make it more appealing to investors and help bring its risk-return relationship back into equilibrium with the market.