example questions finance
If you bought a stock for $250 and sold it for $300 after a year, you also received a dividend of $20 in that year. What was the RETURN you received over the year?
((New Price of stock - Old Price of stock) + Dividend)) / Old Price of stock (300-250) + 20 / 250 = 28%
If you bought a stock for $50 and sold it for $60 after a year, you also received a quarterly dividend of $2.00 throughout the year. What was the rate of return you received over the year?
((New Price of stock - Old Price of stock) + Dividend)) / Old Price of stock (60 -50) + 2(4) / 50 = .36 = 36%
Calculate the taxable equivalent bond yield of a municipal bond with an interest rate of 6% for an investor in the 40% tax bracket.
(1- .40) = .6 6 / .6 = 10%
Assume that a 25-year bond with a face value of $1,000 has a 8% coupon rate and is compounded semi- annually. The bond is callable after 15 years at 108% of par value and the market rate in today's market is 7%. What is the value of the bond? (rounded to the nearest number)
** coupon rate > market rate *** don't call n = 50 i = 3.5 pmt = 40 fv = 1000 pv = solve =1117
Calculate the spread to treasuries of Franklin Co.'s 10-year, 7% bond yield given the following information: Franklin Co.'s 20-year bond yield= 9%; Franklin Co.'s 30-year bond yield= 11%; 10-year treasury yield= 3%; 20-year treasury yield=3.5%; 30-year treasury yield=4%
-Spread to Treasuries = Yield on a corporate bond - Yield on US Treasury with same security 7% - 3% = 4%
GE has issued two different $1000 bonds that pay semi-annual coupons. Both bonds have a coupon rate of 12%, one bond has 30 yrs to maturity and the other has 10. if the current market rate falls to 9%, how will it affect the value
30-Year Bond n - 60 i - 4.5 pmt - 60 fv -1000 PV = $1,309.57 10-Year Bond n - 20 i- 4.5 pmt- 60 fv- 1000 PV = $1,195.12 Difference = $1,309.57 - $1,195.12 = $114.45 The 10-year bond will have a value $114.45 lower than the 30-year bond
Calculate the expected return for Smeal Co., using the Capital Asset Pricing Model. Risk free rate: 6.0%, Market Return: 9.0%, Beta 1.0
6 + 1(9 - 6) = 9
Preston is in the 35% tax bracket and he holds a municipal bond that pays a tax-exempt interest rate of 6%. What is the taxable equivalent bond yield?
6 / (1-.35) = 9.23
With all else being constant, a higher WACC would result in _________? A lower intrinsic stock value A higher P/E ratio than competitors A higher intrinsic stock value Lower revenue growth A higher dividend payout ratio
A lower intrinsic stock value
Which of the following is false concerning stock valuation? A stock's value can be found using discounted cash flows A stock's value depends on the investor's required rate of return only A stock's value is negatively related to changes in market interest rates Dividend policy affects the future value of a stock, but not the current value. Higher interest rates decrease a stock's value
A stock's value depends on the investor's required rate of return only
Given the following information, calculate Dragon Fund's alpha: T-Bill Return: 4% S&P 500 Return: 12% Beta: 1.40 Beginning Fund Value: $1,000 Ending Fund Value: $1,250
Alpha = Actual return - Expected return Actual Return = (ending value - beginning value) / beginning value Expected Return = Risk-free rate + Beta (Expected return on the market - Risk free rate) actual = (1250 - 1000)/1000 = 25% expected = 4 + 1.4(12 -4) = 15.2% Alpha = 25 - 15.2 = 9.8
Which of the following statements is FALSE regarding behavioral finance: Behavioral finance claims that market prices reflect emotions and biases Anchoring attributes cause and effect significance to chance events Loss aversion means that the investor's utility gained from a win will be less than the utility lost from a loss of the same magnitude If a recently successful Hedge Fund manager invests in a stock, so other investors decide to buy the stock too, it is an example of the Hot Hand Fallacy Investors are irrational and react to imperfect information
Anchoring attributes cause and effect significance to chance events
What is FALSE regarding Capital Budgeting? A. Capital budgeting takes into account risk of future cash flows B. Capital budgeting involves the past cash flows of the project C. Capital budgeting is the process of planning and managing a firm's long-term investment in projects and other ventures D. Capital budgeting is planning long-term investments E. Capital budgeting takes into account the timing of cash flows
B. Capital budgeting involves the past cash flows of the project
Which metric is required to value a stock using the discounted cash flow methodology? A. D/E Ratio B. Forecasted Revenue Growth C. P/E Ratio D. Alpha E. All are required metrics
B. Forecasted Revenue Growth
The semi-strong-formof market efficiency states that ________. A.stock prices reflect all information, including information not yet available to the investment community B.neither fundamental nor technical analysis can provide an advantage for an investor C.it is most useful to try to detect and exploit trends in stock prices in order to get high returns D.stock prices reflect the information contained in the history of past stock prices and trading volume E.daily changes in stock price are dependent on the previous day's stock performance
B.neither fundamental nor technical analysis can provide an advantage for an investor -true
select the true statement about interest rate risk interest rate risk increases as the maturity of the bond increases interest rate risk increases as the coupon of the bond decreases interest rate risk is not affected by the maturity of the bond interest rate risk is not affected by the coupon payment of a bond
BOTH: interest rate risk increases as the maturity of the bond increases interest rate risk increases as the coupon of the bond decreases
which is correct regarding mutual funds and returns
BOTH: when dealing with most mutual funds, net returns are smaller than gross returns due to the fees by mutual funds in an efficient market, individuals purchasing mutual funds should always invest in a fund with the LOWEST fees
Which of the following does not relate to the systematic risk of a stock? Unemployment increases IRS closes corporate tax loop holes Tax rates increase Company facing lawsuits over recalls Economy is growing slower
Company facing lawsuits over recalls
which bond treasury would have the highest spread to treasury
Credit rating B. Spread to treasuries is a measure of the default risk of a bond. Lower credit rating bonds have more default risk.
Select the FALSE statement regarding diversification The ways to reduce risk associated with financial assets are hedging, diversification, insurance, and selling the financial assets Diversification reduces both systematic and unsystematic risk Diversification acts to reduce risk as long as the returns of assets are not perfectly correlated Unsystematic risk of a portfolio can be reduced through diversification. Diversification works worst when the returns of the assets are highly, positively correlated
Diversification reduces both systematic and unsystematic risk
Calculate the firm's expected return using the capital asset pricing model: Risk Free Rate: 2.5% Market Return: 7% Beta: 1.5 Standard Deviation: 6% Debt/Equity Ratio: 40%
Expected Return = Risk-free rate + Beta (Expected return on the market - Risk free rate) 2.5 + 1.5(7 - 2.5) = 9.25%
1. Given the following, calculate the beta for the firm: Risk free rate = 5.0% Return on the market = 8.0% Expected Rate of Return = 9.5%
Expected Return = Risk-free rate + Beta (Expected return on the market - Risk free rate) 9.5 = 5 + b ( 8 - 5) beta = 1.5
Using the CAPM, calculate the Expected Return for: Alpha = 1.3; Beta = 0.8 T-Bill Rate = 3%; S&P 500 average return rate = 7.5%; WACC = 11%.
Expected Return = Risk-free rate + Beta(Expected return on the market - Risk free rate) 3 + .8( 7.5 - 3) = 6.6%
Using the CAPM, calculate the Expected Return for the Happy Valley Company: Alpha = 1.2%; Beta = 1.4 T-Bill Rate = 2.0%; S&P 500 average return rate = 8.0%; WACC = 9%.
Expected return = 2 +1.4( 8 - 2) = 10.4
Which is most accurate? If a company's tax rate increases but the yield to maturity of its non-callable bonds remains the same, then, all other factors held constant, the firm's WACC should decrease. the before tax cost of debt financing exceeds the after tax cost of financing typically the cost of retained earnings is typically much cheaper than that of debt financing since the firm retains any earnings that are not needed to be paid out as dividents
If a company's tax rate increases but the yield to maturity of its non-callable bonds remains the same, then, all other factors held constant, the firm's WACC should decrease. This statement tells us that the only thing that is changing is the company's tax rate. We can see from the WACC equation that if the company's tax rate increases, WACC will decrease.
select the type of bond where the investor does not have interest rate risk
Interest rate risk is the potential for investment losses that result from a change in interest rates Floating-rate corporate bond. Floating-rating bonds are the only type of bond where the issuer retains the interest rate risk. A floating-rate bond means that the bond's coupon rate fluctuates with the market rate.
If Gray Inc.'s stock is trading at $12 per share, what is the intrinsic value of a put option with a strike price of $18 if the option is trading at $7?
Intrinsic Value of Put = Strike price - Stock Price 18-12 = 6 use 12 not 7 because its stock price not option price
Given the following information, calculate the time value of the call option on Company X's stock: Current price of X's stock: $18 Strike price of call option on X's stock (expires in 6 months): $14 Market price of 6-month option on X's stock: $10
Intrinsic value for Call Option = Current price - strike price Time value of option = market price of option - intrinsic value intrinsic = 18 - 14 = 4 time value = 10 - 4 = 6
Which of the following is false regarding a bond with a call feature? Would usually have a higher yield than a similar non-callable bond Is unattractive to the buyer because the immediate receipt of principal and premium produces a high return. Generally has a lower credit rating than a similar non-callable bond. Is less apt to be called when interest rates drop because the interest savings will be greater. Is attractive to the issuer because the bond is subject to be called by the issuer at the pre- determined call price.
Is less apt to be called when interest rates drop because the interest savings will be greater.
Making decisions to maximize expected return based on a given level of market risk is an example of _____________. Technical analysis Fundamental analysis Managerial analysis Behavioral analysis Modern Portfolio theory
Modern Portfolio theory
select the choice that describes the most likely effect of inflation increasing on the price of outstanding fixed-rate bonds
Price will decrease. If inflation increases, the market interest rate should increase as well. When the market rate increases, bond value decreases.
How does a credit rating influence the bond's spread to treasuries? A higher credit rating increases a bond's spread to treasuries A higher credit rating decreases a bond's spread to treasuries A lower credit rating decreases a bond's spread to treasuries Change depends on which credit agency rated the bond No effect on a bond's spread to treasuries
Spread to Treasuries - measure of default risk -Spread to Treasuries = Yield on a corporate bond - Yield on US Treasury with same security bonds yields and credit ratings have an inverse relationship A higher credit rating decreases a bond's spread to treasuries-- because a higher credit rating will make a smaller yield
the difference between the yield on a corporate stock and the yield on a us treasury bill
Spread to treasuries. Spread to treasuries is a measure of a corporate bond's default risk.
Risk caused by economy, taxes, and other market factors is which type of risk for investors? Reinvestment Risk Interest Rate Risk Credit Risk Unsystematic Risk Systematic Risk
Systematic Risk
What is the tax-equivalent yield of the following municipal bond? Price: $1,000 Coupon Rate: 7.0% Federal tax rate: 30% Maturity: 15 years
Taxable Equivalent Yield = r / (1 - tax rate) 7 / (1 - .3) = 10%
what does is mean when a mutual fund has a positive alpha using gross returns over the past 5 years
The expected alpha of the mutual fund for the next 5 years will be zero when using gross returns and negative when using net returns.
if the pure expectations hypothesis is correct, which is most accurate
The long-term interest rate will equal to an average of the current spot rate and the spot rate investors expect to observe in the future. Pure expectations theory says that the expected return on purchasing five consecutive one-year bonds will be equal to the expected return on a five-year bond. This means that according to pure expectations theory investors do not earn a greater yield from purchasing long-term bonds than they do from purchasing many consecutive short-term bonds.
Which of the following is true about bonds? The longer the maturity of the bond, the higher the interest rate risk There is a positive relationship between market interest rate movements and bond prices The lower the default risk on the bond, the higher the yield of the bond A decrease in market interest rate will decrease bond prices Bonds prices are not affected by prepayment risk
The longer the maturity of the bond, the higher the interest rate risk
Which of the following statements is false: Poor profits for a firm can negatively affect its stock price A firm's profits and market value have a direct relationship A stock's value depends most on interest rates, profits, and risks The market value of a company is total market value of its assets A public company's market value is calculated by multiplying the shares outstanding by its current market stock price
The market value of a company is total market value of its assets
Calculate value of a perpetuity with even annual cash flows of $25,000 with 5% discount rate.
Value of a perpetuity = Annual cash flow / Discounting rate 25000/.05 = 500k
A record company bought the rights to an artist's music catalogue and they expect to receive royalty payments of $50,000 per year forever (a perpetuity). What is this cash flow worth? Assume interest rates are 7%.
Value of a perpetuity = Annual cash flow / Discounting rate 50,000 / .07 = 714,286
What would you be willing to pay for an infinite stream of cash flows of $50,000 per year given an interest rate of 5%?
Value of a perpetuity = Annual cash flow / Discounting rate 50000 / .05 = 1,000,000
select the true statement a company's market value is the difference between its assets and short term liabilities there is an inverse relationship between a firms profits and market value - false bc its direct there is a direct relationship between interest rates and stock market values - false bc its inverse a company's market value is the total market value of the company's assets a company's market value is its assets and future cash flows discounted for time and risk
a company's market value is its assets and future cash flows discounted for time and risk
ALL TRUE
a firms market value will decrease when profits decrease a firms market value will decrease when the required yield on a stock increases interest rates and stock values have an inverse relationship
which is an example of technical analysis analyzing charts to find a stocks volume of trading activity analyzing the PEs of a company using the DCF using previous transactions to assign a company a multiple comparing a company to other companies in the industry
analyzing charts to find a stocks volume of trading activity
select the TRUE statement about CAPM alpha is used in the capm calculation capm gives you the value of the market risk premium as beta decreases, capm will decrease as well capm does not take the risk-free rate into account capm is used to find the observed return
as beta decreases, capm will decrease as well if beta decreases, the required return on the investment will decrease as well. A lower beta represents a lower level of risk. As risk decreases, the required return on an investment will decrease as well
in capm, the expected return of a stock is directly related to its
beta
what is false about bonds they're a debt instrument - true bonds repay interest to their investors in semi annual payments- true bonds can be issued by gov, municipalities and companies- true bonds don't have any default risk - false bonds issue the total principal amount at their maturity- true
bonds don't have any default risk
which is correct about the yield curve when the curve is upward sloping, investors require higher returns for longer maturities when the curve is downward sloping, investors require higher returns for shorter maturities the yield curve does not affect returns investors require
both: when the curve is upward sloping, investors require higher returns for longer maturities when the curve is downward sloping, investors require higher returns for shorter maturities
What is true regarding the value of a 5%-coupon bond with a FV of $1,000 if market rates decrease from 10% to 8%? Coupon rate is higher than the market risk Bond will sell at par Bond will sell at larger discount Bond will sell at a smaller discount Bond is close to its maturity
coupon rate = 5% market risk = 8% coupon rate < market rate --> going to be sold at a discount moving from 10% to 8% so it'll be sold at a smaller discount
calculating IRR
entered the same as NPV but without the interest rate because the IRR is calculating the interest rate that will give an NPV of 0this is why you need an initial outflow to base your rate of return on they might give you an interest rate for extra information
True/False: Risk reduction is most effective by following the strategy of investing in assets that are highly correlated.
false
True/False: The prepayment risk of bonds is higher when interest rates go up?
false
True/False: The yield curve usually is flat which means that investors require the same return for a short-term vs long-term security.
false - its usually upward
You own a 10-year bond and a 20-year bond, both of which are non-callable bond and pay a coupon of 7%. What is true about the change in value of your bonds, if interest rate falls from 12% to 8%?
find both the value of the bonds at 12% and 8% and subtract **didnt say semi annual ex of one/ for 20 yr: n = 20 i = 8% pmt = 70 fv= 1000 pv = solve = 901 n = 10 i = 8% pmt = 70 fv= 1000 pv = solve = 627 ^ do this for 10 yr bond too then subtract (901-627) - (the difference of the value for the 10 yr bond) answer: value of the 20 yr bond will increase by 60 more than 10 yr
a lion tutors bond pays a coupon rate of 6%. the bond has a maturity value of $1000. The market rate was 4%; however, the rate recently increased to 6%. based on the new market rate, select the answer choice for this bond
fixed rate par value bond
Earnings & Dividends drives a stock's price under which analysis?
fundamental
which is true about payback period a payback period less than 5 years is always a good investment gross cash flows are used to calculate the payback period it doesn't take interest into account Discounted cash flows are used to calculate payback period the lower the discount rate, the higher the payback period
gross cash flows are used to calculate the payback period
In an efficient market, when a firm makes an announcement that one of its investments has been successful and it will result in a positive NPV, the stock price will: decline gradually over the next few days rise on the same day to the new price rise gradually over the next few days increase on the same day to the new price that reflects the good news in the announcement stay at the same price
increase on the same day to the new price that reflects the good news in the announcement
which would NOT increase the intrinsic value of a share of stock lowering beta lowering the tax rate lowering risk free rate increasing revenue growth increasing working capital as percent of sales
increasing working capital as percent of sales
If the Federal Reserve increases the interest rate on when you hold a bond, what happens to the bonds value
it decreases
Assume that a 8-year, 8% bond is callable after 5 years at 105% of par value and the discount rate in today's market is 5%. Using the price-to-worst method, what is the value of this bond?
n = 10 i = 2.5 pmt = 40 fv = 1050 pv = solve
Mimi makes a payment of $3,100 a year on her car. At the end of 10 years, she's paid off her initial $20,000 loan. What was her approximate interest rate?
n = 10 pmt = -3100 pv = 20000 fv = 0 i = solve
A company has a 10% bond that has a face value of $1000 and matures in 10 years. Assume that coupon payments are made semi-annually. The bonds can be called after 5 years at a premium of 5% over face value. What is the value of the bond if rates drop immediately to 8%?
n = 10 (5x2) i = 4% (8/2) pmt = 50 (1000 x .10/2) ***FV= 1000 x (1 + .05) 1000 x 1.05 = 1050
Value a 15-yr non-callable bond that pays coupons of 7% assuming market interest rates are 4%.
n = 15 i = 4 pmt = 70 fv = 1000 pv = solve
An investor will receive a 15-year annuity of $5,000 per year. If the annual interest rate is 4.5%, what is the present value of this annuity?
n = 15 i = 4.5 pmt = 5000 fv = 0 pv = solve
Calculate the value of a zero coupon 10-year bond (semi-annual) with a face value of $1,000. Assume the market rate is 4.5%.
n = 20 i = 2.25 pmt = 0 fv = 1000 pv = ? 641
Assume that a 10 year, non-callable, semi-annual, 8% coupon bond is issued. If interest rates rise to 12%, what is the present value of this bond?
n = 20 i = 6 pmt = 40 fv = 1000 pv = solve = 771
A 10-year, 8% bond pays semi-annual coupon payments. If the face value is $1,000 but the bond sells for $1,050, what is the annualized yield on the bond?
n = 20 pv = -1050 pmt = 40 fv = 1000 i = ? i = 3.6 x 2 = 7.3 multiply by two for annual
Assume that a 30-year semi-annual, 12% $1,000 bond is callable after 15 years at 105% of par value and the discount rate in today's market is 10%. Using the price-to-worst method, what is the value of this bond?
n = 30 (15 x 2) i = 5 pmt = 60 (1000 x .12/2) fv = 1050 (because of 105%) pv = 1165
Suppose that 15 years ago, Amazon had issued 30-year non-callable bonds. The bonds carried an annual coupon of 10% paid semi-annually and the face value was $1,000. If interest rates are 8% today, what is the current value of the bonds?
n = 30 (15x2) i = 4 (8/2) pmt = 50 (1000 x .1 /2) fv = 1000 pv = solve
A 20-year, semiannual zero-coupon bond has a face value of $1,000 and 8% yield, what is the market value of the bond?
n = 40 i = 4 pmt = 0 fv = 1000 pv = solve
What is the yield of a 20-year 8% bond that is paid semiannually, and has a face value of $1,000 and selling for $900?
n = 40 pv = -900 pmt = 40 fv = 1000 i = solve i = 4.5471 x 2 = 9.09% **multiply by two for annual
what is the present value of the following stream of cash flows received during each year when given 10% discount rate year 1 = 35000 year 2 = 40000 year 3 = 50000
note-- there is no cash flow in year 0. In many problems, you will be making an initial investment in a project in year 0, and then you will receive cash inflows from the project in future years. However, this problem simply wants you to find the present value of the cash flows in years 1-3 based on a 10% interest rate. Thus, the cash flow in year 0 is $0 for this problem CF 0 = 0 -> initial investment is 0 because there was none in this problem *** always enter this as negative***** CF 1 = 35,000 CF 2 = 40,000 CF 3 = 50,000 i = 10 NPV = 102,442 press cf button and enter each cf and click enter, then hit npv and type in i and then scroll down to npv
calculating before tax cost of debt
page 80 in practice exam packet
If Company A's stock price is currently $38 and the intrinsic value is $27, what should you do as an investor?
stock price > intrinsic value overvalued Sell the stock if you own it because its overvalued
Given the following information, calculate the stockholder's return: Beginning Price: $95 Price one year later: $105 Dividends Paid: $2
stock return: ((New Price of stock - Old Price of stock) + Dividend)) / Old Price of stock ( (105 - 95) + 2 ) / 95
select the true statement about a bond with a call feature the bond will typically have a higher yield than a comparable non-callable bond the call feature is attractive to investors because the immediate receipt of the principal and call premium result in a large return the call feature is not attractive to the issuer because if the bond is called the issuer will have to pay the investor the predetermined call premium the bond is most likely to be called when interest rates increase the bond will typically have a higher credit rating than a comparable non-callable
the bond will typically have a higher yield than a comparable non-callable bond Callable bonds are riskier for investors. Thus, investors will require a higher rate of return on a callable bond than a non-callable bond all else held equal. Call options increase risk for investors and decrease risk for issuers.
the irr of a project represents what
the discount rate that makes NPV equal to zero
select the most accurate statement about the pure expectations hypothesis
the maturity risk premium will be zero
True/False: Stocks above the risk-return line have positive alphas while stocks below the risk-return line have a negative alpha.
true
True/False: The difference between fixed-rate premium bonds and fixed-rate discount bonds is if the coupon rate on the bond is higher or lower than the market yield?
true
determine the company's intrinsic price per share corporate value = $40 million short-term liabilities = $180,000 bonds outstanding = $5 million long-term growth rate = 4% beta = 1.2 number of shares outstanding = 750,000
value to common equity = corporate value - long term debt - short term liabilities - preferred stock intrinsic value per share = value to common equity / # of shares outstanding Value of common equity = $40 million - $180,000 - $5 million Value of common equity = $34,820,000 Intrinsic price per share = $34,820,000 / 750,000 Intrinsic price per share = $46.42
when are you most likely to call a bond
when interest rates decrease because the issuer can call the bonds and then reissue them at the lower interest rate.
