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MNO preferred stock pays a dividend of $2 per year and has a price of $20. If MNO's tax rate is 21 percent, the required rate of return on its preferred stock is found by which formula?

$2/$20

The risk-free asset has a beta of _____.

0

A projected IRR on a risky investment in the _____ percent range is not unusual.

10 to 20

The weighted average of the standard deviations of the assets in Portfolio C is 12.9%. Which of the following are possible values for the standard deviation of the portfolio? 10.9% 12.9% 14.9%

10.9%, 12.9%

Based on average historical returns shown in the text, small-company stocks increased in value by _____ percent in a typical year.

16

In the Ibbotson-Sinquefield studies, long-term corporate bonds have which of the following characteristics? Multiple select question. 20-year maturities High quality Government issuers 10-year maturities

20-year maturities, High quality

During the financial crisis of 2008, the S&P 500 Index fell by _____ percent.

37

In 2008, long-term Treasuries in the United States gained Blank______ percent, while shorter-term Treasury bonds were up 13 percent. Multiple choice question.

40

The probability of an outcome being within ± one standard deviation of the mean in a normal distribution is approximately ___ percent.

68

Which of the following is true? A company cannot deduct interest paid on debt when computing taxable income. A company can deduct interest paid on debt when computing taxable income. A company can deduct dividends paid to shareholders when computing taxable income.

A company can deduct interest paid on debt when computing taxable income.

Which of the following are components used in the construction of the WACC? Cost of accounts payable Cost of common stock Cost of preferred stock Cost of debt

Cost of common stock, Cost of preferred stock, Cost of debt

Which of the following are tax-deductible to the firm? Coupon interest paid on bonds Dividends paid on preferred stock Dividends paid on common stock Principal amounts paid on debt

Coupon interest paid on bonds

What can we say about the dividends paid to common and preferred stockholders? Multiple select question. Dividends to common stockholders are not fixed. Preferred stock dividends change every year based on the earnings of the firm. Dividends are guaranteed for both preferred and common stockholders. Dividends to preferred stockholders are fixed.

Dividends to common stockholders are not fixed, Dividends to preferred stockholders are fixed

What two factors determine a stock's total return?

Expected return, unexpected return

Which of the following are examples of a portfolio? Multiple select question. Investing $100,000 in a combination of U.S. and Asian stocks Holding $100,000 in cash to buy after five years 100 shares of the best performing stock on the NYSE Holding $100,000 investment in a combination of stocks and bonds Investing $100,000 in the stocks of 50 publicly traded corporations

Investing $100,000 in a combination of U.S. and Asian stocks, Holding $100,000 investment in a combination of stocks and bonds, Investing $100,000 in the stocks of 50 publicly traded corporations

What does the security market line depict?

It is a graphical depiction of the capital asset pricing model, shows the relationship between expected return and beta

What is unsystematic risk?

It is a risk that affects a single asset or a small group of assets

What is systematic risk?

It is a risk that pertains to a large number of assets.

Which of the following are examples of unsystematic risk? Changes in the federal tax code The expected rate of inflation next year Labor strikes Changes in management

Labor strikes, Changes in management

_____ returns tell how much was received for each dollar invested, so they can be applied to any initial investment amount.

Percentage

In the Ibbotson study, the large-company common stock portfolio is based on the ____.

S&P 500 Index

Which of the following are true? Multiple select question. T-bills sometimes outperform common stocks. Common stocks may experience negative returns. T-bills occasionally show negative returns. On average, T-bills outperform common stocks.

T-bills sometimes outperform common stocks, common stocks may experience negative returns

The rates of return in the Ibbotson-Sinquefield studies are not adjusted for which of the following? Multiple select question. Taxes Inflation Bond coupons Dividends

Taxes, Inflation

The Ibbotson-Sinquefield data shows that ___. Multiple select question U.S. T-bills had the lowest risk or variability long-term corporate bonds had less risk or variability than stocks large-company stocks had higher returns than small-company stocks inflation was always higher than the U.S. T-bill yield

U.S. T-bills had the lowest risk or variability, long-term corporate bonds had less risk or variability than stocks

Arrange the following investments in order from lowest historical risk premium to highest historical risk premium. Large-company stocks U.S. Treasury Bills Long-term corporate bonds Small-company stocks

U.S. treasury bills, long term corporate bonds, large-company stocks, small-company stocks

Which one of the following is true? Under U.S. tax law, all company interest payments are taxable to the company. Under U.S. tax law, a corporation's interest payments are deductible for tax purposes.

Under U.S. tax law, a corporation's interest payments are deductible for tax purposes.

What does WACC stand for?

Weighted average cost of capital

If you wish to create a portfolio of stocks, what is the required minimum number of stocks?

You must invest in stocks of more than one corporation.

The calculation of a portfolio beta is similar to the calculation of _____

a portfolio's expected return

If the market changes and stock prices instantly and fully reflect new information, which time path does such a change exhibit?

an efficient market reaction

The dividend yield for a 1-year period is equal to the annual dividend amount divided by the ______.

beginning stock price

Some important characteristics of the normal distribution are that it is:

bell-shaped, symmetrical

The _____ coefficient is the amount of systematic risk present in a particular risky asset relative to that in an average asset.

beta

The cost of ____ is the minimum required return on a new investment.

capital

WACC is used to discount _____.

cash flows

Historical return data indicates that as the number of securities in a portfolio increases, the standard deviation of returns for the portfolio _____.

declines

The increase in the number of stocks in a portfolio results in a(n) ____ in the average standard deviation of annual portfolio returns.

decrease

When we ____ an announcement or a news item, we say that it has less of an impact on price because the market already factored it in.

discount

To apply the dividend growth model to a particular stock, you need to assume that the firm's ___ will grow at a constant rate.

dividend

One method for estimating the cost of equity is based on the ______ model.

dividend growth

The two potential ways to make money as a stockholder are through ______ and capital appreciation.

dividends

In an efficient market, firms should expect to receive ______ value for securities they sell.

fair

True or false: Systematic risk can be eliminated by diversification

false

True or false: The cost of debt on the market value basis is typically much higher than the cost of debt on the book value basis.

false

An efficient market is one in which any change in available information will be reflected in the company's stock price ___.

immediately

Dividends are the ______ component of the total return from investing in a stock.

income

The expected return on the market will increase if the risk-free rate _________ or if the market risk premium _____.

increases, increases

Based on the historical returns shown in the text, the average _____ was 2.9 percent per year over the 94-year span depicted.

inflation

The CPI is the most commonly used measure of _____.

inflation

An efficient market is one that fully reflects all available ______.

information

Stock prices fluctuate from day to day because of _____.

information flow

If the dispersion of returns on a particular security is very spread out from the security's mean return, the security ____.

is highly risky

semistrong form efficiency

is the most controversial, and all public information is reflected in the stock price

The most appropriate weights to use in the WACC are the ______ weights.

market value

A firm's cost of debt can be ___. Multiple select question. obtained by talking to investment bankers estimated easier than its cost of equity obtained by checking yields on publicly traded bonds calculated using the dividend growth model

obtained by talking to investment bankers, estimated easier than its cost of equity, obtained by checking yields on publicly traded bonds

The security market line (SML) shows that the relationship between a security's expected return and its beta is _____.

positive

Historically, the real return on Treasury bills has been _____.

quite low

The SML is very important because it tells us the "going rate" for bearing ____ in the economy.

risk

The Ibbotson-Sinquefield data show that over the long-term, ___. Multiple select question. small-company stocks had the highest risk level long-term corporate bonds had the lowest risk small-company stocks generated the highest average return large-company stocks generated the highest average return T-bills, which had the lowest risk, generated the lowest return

small-company stocks had the highest risk level, small-company stocks generated the highest average return, T-bills, which had the lowest risk, generated the lowest returns

Geometric averages are ______ arithmetic averages.

smaller than

The principle of diversification tells us that spreading an investment across a number of assets will eliminate ____ of the risk

some

The ____ risk principle argues that the market does not reward unnecessary risk that is taken on by the investor.

systematic

Which type of risk is unaffected by adding securities to a portfolio?

systematic risk

Which one of the following types of risk is not reduced by diversification?

systematic, or market risk

The systematic risk principle argues that the market does not reward risks _____.

that are borne unnecessarily

risk premium

the additional compensation for taking risk, over and above the risk-free rate

Blume's formula combines _____.

the arithmetic average return and the geometric average return

Which of the following methods for calculating the cost of equity ignores risk?

the dividend growth model

What is the expected return on a security with beta of 1?

the expected return on the market

The standard deviation is ___.

the square root of the variance

Which of the following are needed to describe the distribution of stock returns? Multiple select question. The standard deviation of returns The variety of returns The mean return The life span of the stock

the standard deviation of returns, the mean return

True or false: The return an investor in a security receives is equal to the cost of the security to the company that issued it.

true

The risk that affects a single asset or a small group of assets is ______ risk.

unsystematic

The efficient markets hypothesis contends that _____ capital markets such as the NASDAQ are efficient.

well-organized

Greater return volatility produces a (smaller/larger) difference between the arithmetic and geometric averages.

larger

True or false: The process to calculate a portfolio's beta is opposite of the process to calculate a portfolio's expected return.

false

The capital gains yield can be found by finding the difference between the ending stock price and the initial stock price and dividing it by the ______.

initial stock price

Using the SML approach, what is the expected return on a stock if its beta is equal to zero?

the risk free rate

The cost of capital depends on the _____ of funds, not the _____ of funds.

use, source

Expected return

The return an investor expects to earn on a risky asset in the future

What is the intercept of the security market line (SML)?

The risk-free rate

What are the two components of unexpected return (U) in the total return equation?

The systematic portion, the unsystematic portion

Capital _____ weights can be interpreted just like portfolio weights.

structure

Which of the following variables is not required to calculate the expected return on a risky asset?

the rate of inflation

What are the two components of the market risk premium? Multiple select question. The risk-free rate The default spread The expected return on the market Beta

the risk-free rate, the expected return on the market

The percentage of a portfolio's total value that is invested in a particular asset is the portfolio ____.

weight

The dividend ______ is defined as the annual dividend amount divided by the beginning stock price.

yield

weak form efficiency

suggests that at a minimum the current price of a stock reflects the stock's own past prices

When a dollar in the future is discounted to the present it is worth less because of the time value of money, but when a news item is discounted, it means that the market _____.

already knew about most of the news item

True or false: The existence of traders attempting to beat the market is a necessary precondition for markets to become efficient.

True

The cost of capital depends primarily on the ____ (use/source) of funds.

use

Which of the following are examples of systematic risk? Labour strikes Future rates of inflation An increase in competition in the industry Regulatory changes in tax rates

Future rates of inflation, Regulatory changes in tax rates

The SML approach requires estimates of the _____. Multiple select question. cost of equity capital beta coefficient market risk premium cost of debt capital

beta coefficient, market risk premium

Dividends paid to common stockholders ______ be deducted from the payer's taxable income for tax purposes.

cannot

The cost of capital is an appropriate name since a project must earn enough to pay those who ______ the capital.

supply

The square of the standard deviation is equal to the ____.

variance

Based on the capital asset pricing model (CAPM) there is generally ___ relationship between beta and the expected return on a security.

a positive

Finding a firm's overall cost of equity is ____ (straightforward/difficult).

difficult

Variance is measured in ___, while standard deviation is measured in ___.

percent squared, percent

According to the capital asset pricing model (CAPM), what is the expected return on a security with a beta of zero?

the risk-free rate of return

The ________ is the squared standard deviation.

variance

The probability of an outcome being within ± two standard deviations of the mean in a normal distribution is approximately ____ percent.

95

Assets A and B each have an expected return of 10 percent. Asset A has a standard deviation of 12 percent while Asset B has a standard deviation of 13 percent. Which asset would a rational investor choose?

Asset A

If you are forecasting a few decades in the future (as you might do for retirement planning) you should calculate the expected return using:

Blume's formula

_______ were a bright spot for Australian investors during 2008.

Bonds

Which of the following is commonly used to measure inflation? Multiple choice question. The CBOE Volatility INdex (VIX) The Consumer Price Index (CPI) The Dow Jones Industrial Average (DJIA) The Case-Schiller Index (CSI)

CPI

True or false: A well-diversified portfolio will eliminate all risks.

False

True or false: Systematic risk will impact all securities in every portfolio equally.

False

Which of the following is a conclusion that can be drawn regarding market efficiency from capital market history?

Future market prices are hard to predict based on publicly available information.

In addition to CAPM, the cost of equity can be determined using the dividend growth model and the _____ approach.

SML

True or false: A capital gain on a share is counted as part of the total return whether or not the gain is realised from selling the share.

True

According to the CAPM, which of the following events would affect the return on a risky asset? Multiple select question. A fire in the company's plant A strengthening of the country's currency A change in the company's leadership A change in the yield on T-bills Federal reserve actions that affect the economy

a strengthening of the country's currency, a change in the yield on T-bills, federal reserve action that affect the economy

The WACC is the weighted average of the cost of equity and the _____.

aftertax cost of debt

What is the term for the excess return an asset earns based on the level of risk taken?

alpha

If you buy a stock for $10 and later sell it for $16, you will have a ____.

capital gain of $6

When a company declares a dividend, shareholders generally receive ______.

cash

The minimum required return on a new project when its risk is similar to that of projects the firm currently owns is known as the _____.

cost of capital

Historically, there is a(n) ______ relationship between risk and expected return in the stock market.

direct

The total dollar return on a stock is the sum of the ____ and the _____.

dividends, capital gains

True or false: The smaller the variance or standard deviation is, the more spread out the returns will be.

false

The (greater/lower) the risk, the greater the required return.

greater

The underlying key assumption, and oftentimes a key disadvantage, of the dividend growth model is that it assumes the dividend _____.

grows at a constant rate

To estimate the expected return on a risky asset, we need to know the ___. market risk premium

market risk premium, stock's beta, risk-free rate

The year 2008 was _____.

one of the worst years for stock market investors in U.S. history

Preferred stock ___. Multiple select question. pays a constant dividend has a fixed maturity pays dividends in perpetuity does not pay dividends

pays a constant dividend, pays dividends in perpetuity

If investors are risk averse, it is reasonable to assume that the risk premium for the stock market will be _____.

positive

Normally, the excess rate of return on risky assets is ___.

positive

The second lesson from capital market history is that there is a direct link between ___ and reward.

risk

The ___ ratio is calculated as the risk premium of the asset divided by the standard deviation.

sharpe

A capital gain on a stock results from an increase in ______.

stock price

What is the slope of the security market line (SML)?

the market-risk premium

Finding a firm's overall cost of equity is difficult because _____.

there is no way of directly observing the return that the firm's equity investors require on their investment

Which of the following are ways to make money by investing in stocks? (Select all that apply.) Dividends Amortization Capital gains Interest

Dividends, Capital Gains

True or false: Based on capital market history, market efficiency shows us that it is relatively simple to identify stocks that are incorrectly priced.

False

What is an uncertain or risky return?

It is the portion of return that depends on information that is currently unknown.

Asset A has an expected return of 17 percent and standard deviation of 5 percent. Asset B has an expected return of 15 percent and standard deviation of 5 percent. Which asset would a rational investor choose?

asset a

The geometric rate of return takes ______ into account.

compounding

In general, the arithmetic average return is probably too _____ (low/high) for longer periods and the geometric average is probably too _____ (low/high) for shorter periods.

high, low

The Sharpe ratio measures ___.

reward to risk

In an efficient market: Multiple select question. It is easy to find stocks that are under- or over-valued. assets are priced at the present value of their future cash flows all investments are zero NPV investments

assets are priced at the present value of their future cash flows, all investments are zero NPV investments

The ______ gains yield can be found by taking the difference between the ending stock price and the initial stock price and dividing it by the initial stock price.

capital

How can a positive relationship between the expected return on a security and its beta be justified?

because the difference between the return on the market and the risk-free rate is likely to be positive

Place the steps in the computation of variance in the correct order from the first step to the last step. Instructions Determine the squared deviation from the expected return Multiply each squared deviation by its probability Calculate the expected return The result is the variance

calculate the expected return, determine the squared deviation from the expected return, multiply each squared deviation by its probability, the result is the variance

A firm's overall cost of capital will include both its cost of ___ capital and equity capital.

debt

Roger Ibbotson and Rex Sinquefield's research on historical rates of return: Multiple choice question. adjusts returns for inflation but not for taxes. adjusts returns for both inflation and taxes. adjusts returns for taxes but not for inflation. does not adjust returns for inflation or taxes.

does not adjust returns for inflation or taxes.

strong form efficiency

implies that current market prices reflect all relevant information, whether it is known publicly or privately. This means that investors (even corporate insiders) will not be able to earn above-average returns, because any information that they may trade on has already been incorporated in the current stock price.

When dealing with the history of capital market returns, an average stock market return is useful because it ___. Multiple select question. is the best estimate of any one year's stock market return during the specified period guarantees the long-term future rate of return simplifies detailed market data accurately forecasts future short-run returns

is the best estimate of any one year's stock market return during the specified period, simplifies detailed market data

The growth rate of dividends can be found using _____. the perpetuity model security analysts' forecasts historical dividend growth rates the capital asset pricing model

security analysts' forecasts, historical dividend growth rates

To estimate the growth rate of a particular stock, we can ___. use the historical dividend growth rate. use the average market dividend yield use the average bank's annual CD rate use security analysts' forecasts

use the historical dividend growth rate, use security analysts' forecasts

One of the disadvantages of using historical returns to estimate the market risk premium is that the past may not be a good guide to the future _____.

when economic conditions change quickly

Arrange the following investments from highest to lowest return based on what our study of capital market history has revealed about risk premiums. Small-company common stock Long-term corporate bonds U.S. Treasury bills

Small-company common stock, long-term corporate bonds, U.S. Treasury bills

How are the unsystematic risks of two different companies in two different industries related?

There is no relationship

The most well-known approach to company performance evaluation is the _____ method.

economic value added

The return an investor in a security receives is ______ the cost of the security to the company that issued it. Multiple choice question.

equal to

The excess return on a risky asset is the difference between the risky return and the ____ rate.

risk-free

Kate Corporation has discovered a very secret new product, but hasn't yet announced the discovery to the public. If the stock price reacts before the announcement (assuming no corporate "leaks"), the market is _____ form efficient.

strong

The cost of ____ can be observed because it is the interest rate the firm must pay on new loans.

debt

Average returns can be calculated _____.

using geometric or arithmetic average.

What is the equation for total return as a function of expected and unexpected returns?

Total return = Expected return + Unexpected return

True or false: A capital gain on a share is counted as part of the total return whether or not the gain is realized from selling the share.

True

To determine whether an investment has a positive NPV, you can compare the expected return on that new investment to what the financial market offers on an investment with _____.

the same beta

The variance of a portfolio (is/isn't) generally a simple combination of the variances of the assets in the portfolio.

isn't

The total dollar return is the sum of dividends and __________.

capital gains or losses

Suppose you buy a share for $100. At the end of one year the share price is $114 and a $1 dividend is paid. If you do not sell the share, your total annual return is ____.

15% ($114-100+1)/$100 = 15%

By definition, what is the beta of the average asset equal to?

1

The Treasury bills used in the Ibbotson-Sinquefield studies had maturities of ___.

1 month

If a security's expected return is equal to the risk-free rate of return, and the market-risk premium is greater than zero, what can you conclude about the value of the security's beta based on CAPM?

It is equal to 0

As more securities are added to a portfolio, what will happen to the portfolio's total unsystematic risk? It will not change. It is likely to increase. It is likely to decrease. It may eventually be almost totally eliminated.

It is likely to decrease, It may eventually or be almost totally eliminated

Which of the following are examples of information that may impact the risky return of a stock? Last year's net income as a percentage of sales and gross fixed assets. The outcome of an application currently pending with the Food and Drug Administration. The trend in sales growth over the last 10 years. The Fed's decision on interest rates at their meeting next week

The outcome of an application currently pending with the Food and Drug Administration, The Fed's decision on interest rates at their meeting next week

The second lesson from studying capital market history is that risk is _____.

handsomely rewarded

Percentage returns are more convenient than dollar returns because they ____.

apply to any amount invested

The ____ return is the return that an investor will probably earn on a risky asset in the future.

expected

In terms of investments, the greater the potential risk, the (lower/greater) should be the expected return.

greater

When an investor is diversified only ________ risk matters.

systematic

The true risk of any investment is the _____ portion.

unanticipated

A project should only be accepted if its return is above what is ___.

required by investors

The risk of owning an asset comes from: unanticipated events forecasts surprises expectations

unanticipated events surprises


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