Chapter 12: Some Lessons from Capital Marketing History

Suppose a stock had an initial price of $91 per share, paid a dividend of $2.40 per share during the year and had an ending share price of $102. Compute the percentage total return. What was the dividend yield? The capital gains yield?

1. Return = [(102-91) + 2.4]/91 = 14.73% 2. Div = 2.4/91 = 2.63% 3. Capital = (102 - 91)/91 = 12.09%

Income Component

direct cash from an investment

A stock has a geometric average return of 14.6 percent and an arithmetic average return of 15.5 percent based on the last 33 years. What is the estimated average rate of return for the next six years based on Blume's formula? A. 15.28 percent B. 15.42 percent C. 14.79 percent D. 15.36 percent E. 14.96 percent

D. 15.36 percent

You own 400 shares of Western Feed Mills stock valued at $51.20 per share. What is the dividend yield is your annual dividend income is $352?

Div = 51.20 x 400 = 20480 352/20480 = 1.72%

A stock had returns of 12 percent, 16 percent, 10 percent, 19 percent, 15 percent, and -6 percent over the last six years. What is the geometric average return on the stock for this period? A. 10.90 percent B. 13.56 percent C. 14.76 percent D. 15.01 percent E. 10.68 percent

E. 10.68 percent

To convince investors to accept greater volatility, you must: A. Decrease the risk-free rate. B. Decrease the real return. C. Increase the risk-free rate. D. Decrease the risk premium. E. Increase the risk premium.

E. Increase the risk premium.

The real rate of return on a stock is approximately equal to the nominal rate of return: A. Divided by (1 - inflation rate). B. Plus the inflation rate. C. Multiplied by (1 + inflation rate). D. Divided by (1 + inflation rate). E. Minus the inflation rate.

E. Minus the inflation rate.

The historical record for the period 1926-2013 supports which one of the following statements? A. The inflation rate was positive each year throughout the period. B. When large-company stocks have a negative return, they will have a negative return for at least two consecutive years. C. There was only one year during the period when double-digit inflation occurred. D. The return on U.S. Treasury bills exceeds the inflation rate by at least .5 percent each year. E. Small-company stocks have lost as much as 50 percent and gained as much as 100 percent in a single year.

E. Small-company stocks have lost as much as 50 percent and gained as much as 100 percent in a single year.

Which one of the following had the least volatile annual returns over the period of 1926-2013? A. Large-company stocks B. Long-term corporate bonds C. Inflation D. Intermediate-term government bonds E. U.S. Treasury bills

E. U.S. Treasury bills

One year ago, you purchased 500 shares of Best Wings, Inc. stock at a price of $9.75 a share. The company pays an annual dividend of $0.10 per share. Today, you sold all of your shares for $15.60 a share. What is your total percentage return on this investment?

Total = (15.60 - 9.75 + 0.10)/9.75 = 61.03%

A year ago, you purchased 300 shares of Stellar Wood Products, Inc. stock at a price of $8.62 per share. The stock pays an annual dividend of $0.10 per share. Today, you sold all of your shares for $4.80 per share. What is your total dollar return on this investment?

Total = (4.8 - 8.62 + 0.1) x 300 = -1116

Suppose Bell Canada and CIBC have experienced the following returns in the last 4 years. What are the average returns? What are the standard deviations? Which investment is more volatile? Year Bell CIBC 2009 -0.20 0.05 2010 0.50 0.09 2011 0.30 -0.12 2012 0.10 0.20

Year Actual Return Average Return Deviation Squared 2009 -0.20 0.175 -0.375 0.1406 2010 0.50 0.175 0.325 0.1056 2011 0.30 0.175 0.325 0.0156 2012 0.10 0.175 -0.075 0.0056 Totals 0.70 0.2675 n = 4 total -1 = 3 Year Bell CIBC Variance 0.2675/3 = 0.0892 0.0176 Standard Deviation Sq Rt(0.0892) = 0.2987 (0.0176) = 0.1327

Efficient Capital Market

a market in which security prices reflect available information

Normal Distribution

a symmetric, bell shaped frequency distribution that is completely defined by its mean and standard deviation

Return on Investment

any gain or loss on an investment

Geometric Average Return

the average compound return earned per year over a multiyear period

Variance

the average squared difference between the actual return and the average return

Risk Premium

the excess return required from an investment in a risky asset over that required from a risk free investment

Efficient Markets Hypothesis (EMH)

the hypothesis that actual capital markets, such as the NYSE, are efficient

Standard Deviation

the positive square root of the variance

Arithmetic Average Return

the return earned in an average year over a multiyear period

The average annual return on small-company stocks was about ________ percent greater than the average annual return on large-company stocks over the period 1926-2013. A. 5 B. 9 C. 11 D. 7 E. 3

A. 5

The U.S. Securities and Exchange Commission periodically charges individuals with insider trading and claims those individuals have made unfair profits. Given this, you would be most apt to argue that the markets are less than ________ form efficient. A. Strong B. Weak C. Semi strong D. Semi weak E. Perfect

A. Strong

A stock has had returns of 3%, 38%, 21%, -15%, 29%, and -13% over the last 6 years. What are the arithmetic and geometric return for the stock?

Art = (0.03 + 0.38 + 0.21 - 0.15 + 0.29 - 0.13)/6 = 10.50% Geo = (1 + 0.3)(1 + 0.38)(1 - 0.15)(1 + 0.29)(1 -0.13)^1/6 - 1 = 8.602%

Consider your investment returns, for example. Suppose you have invested your savings in the stock market for 5 years. If your returns each year were 90%, 10%, 20%, 30%, and -90%, what would your average return be during this period? What is the arithmetic average and geometric average?

Art = 12% Geo = -20.08% Geo = (1 + 0.9)(1 + 0.1)(1 + 0.2)(1 + 0.3)(1 - 0.9)^1/5 - 1 = -20.08%

A stock had returns of 11%, -18%, -21%, 20%, and 34% over the past 5 years. What is the standard deviation of these returns?

Average = (0.11 - 0.18 - 0.21 + 0.20 + 0.34)/5 = 0.052 Theta = Sq Rt [1/(5 - 1)][(0.11 - 0.052)^2 + (-0.18 - 0.052)^2 + (-0.21 - 0.052)^2 + (0.05 - 0.052)^2 + (0.34 - 0.052)^2] = 24.01%

A stock has annual returns of 5 percent, 21 percent, -12 percent, 7 percent, and -6 percent for the past five years. The arithmetic average of these returns is ________ percent while the geometric average return for the period is ________ percent. A. 3.89; 3.52 B. 3.00; 2.37 C. 3.89; 4.26 D. 3.62; 3.89 E. 3.00; 3.28

B. 3.00; 2.37

The average compound return earned per year over a multiyear period is called the ________ average return. A. Real B. Geometric C. Arithmetic D. Variant E. Standard

B. Geometric

Over the past five years, a stock produced returns of 11 percent, 14 percent, 4 percent, -9 percent, and 5 percent. What is the probability that an investor in this stock will not lose more than 10 percent in any one given year? A. Greater than 1 percent but less than 2.5 percent. B. Greater than 84 percent but less than 97.5 percent. C. Greater than 95 percent. D. Greater than .5 but less than 1.0 percent. E. Greater than 2.5 percent but less than 16 percent.

B. Greater than 84 percent but less than 97.5 percent.

Estimates of the rate of return on a security based on the historical arithmetic average will probably tend to ________ the expected return for the long-term and estimates using the historical geometric average will probably tend to ________ the expected return for the short-term. A. Overestimate; overestimate B. Overestimate; underestimate C. Underestimate; underestimate D. Underestimate; overestimate E. Accurately; accurately

B. Overestimate; underestimate

A stock has an expected rate of return of 13 percent and a standard deviation of 21 percent. Which one of the following best describes the probability that this stock will lose at least half of its value in any one given year? A. 1.0 percent B. 5.0 percent C. .5 percent D. 2.5 percent E. .1 percent

C. .5 percent

What is the amount of the risk premium on a U.S. Treasury bill if the risk-free rate is 2.8 percent and the market rate of return is 8.35 percent? A. 11.15 percent B. 8.35 percent C. 0 percent D. 2.80 percent E. 5.55 percent

C. 0 percent

Over a 30-year period an asset had an arithmetic return of 13 percent and a geometric return of 10.5 percent. Using Blume's formula, what is your best estimate of the future annual returns over the next 10 years? A. 11.84 percent B. 12.46 percent C. 12.22 percent D. 11.18 percent E. 12.04 percent

C. 12.22 percent

If the variability of the returns on large-company stocks were to decrease over the long-term, you would expect which one of the following to occur as a result? A. Increase in the average long-term rate of return B. Increase in the standard deviation C. Decrease in the 68 percent probability range of returns D. Increase in the geometric average rate of return E. Increase in the risk premium

C. Decrease in the 68 percent probability range of returns

Aimee is the owner of a stock with annual returns of 27 percent, -32 percent, 11 percent, and 23 percent for the past four years. She thinks the stock may be able to achieve a return of 50 percent or more in a single year. What is the probability that your friend is correct? A. Less than .5 percent. B. Greater than 16 percent. C. Greater than 2.5 percent but less than 16 percent. D. Greater than .5 percent but less than 1 percent. E. Greater than 1 percent but less than 2.5 percent.

C. Greater than 2.5 percent but less than 16 percent.