Portfolio Basics
A customer wants an equity investment with a required rate of return of 7% and wants to receive a yearly dividend payment of $1.25. To meet the customer's requirements, the security must cost:
$17.86
A customer wants an equity investment with a required rate of return of 5% and wants to receive a yearly dividend payment of $2.50. To meet the customer's requirements, the security must cost:
$50.00 If the $2.50 dividend payment is divided by the required rate of return (5%), this gives a per share price of $2.50/.05 = $50.00.
The formula for the risk adjusted rate of return is:
(Rate of return -Risk free rate of return) / Amount invested
The measure of incremental return earned for taking on incremental risk is:
(Total Return - Risk Free Return) / Standard Deviation
An active portfolio manager generates a return of 17.50% on her equity portfolio that has a beta of 1.50. The expected return of the benchmark market index (beta of 1) is 10%. Assuming that the risk-free rate of return is zero, what is the alpha achieved by the manager?
+2.50%
If an investment yields 6% at the same time as inflation as measured by the CPI increases by 6%, the inflation-adjusted rate of return is:
0%
A customer is considering investing in a private partnership that is currently being formed to buy an office building. The certificate of limited partnership places a life of 9 years on the partnership, after which the office building will be sold and the proceeds distributed to the limited partners. The customer is evaluating the annual cash flow projections included in the Private Placement Memorandum using a CAPM approach. When doing so, the interest rate that would be used as the minimum "hurdle rate" for the project would be the:
10 year Treasury Note rate
A customer makes an initial $300,000 investment. During the first year, the investment pays $5,000 of dividends, which are reinvested. During the second year, the investment pays $7,000 of dividends, which are reinvested. At the end of the second year, the portfolio has a value of $360,000. The approximate annual rate of return, ignoring compounding, is:
10%
If 26 week T-bills are yielding 5%; while growth stocks are yielding 15%, the risk adjusted rate of return for investing in growth stocks is:
10%
At the beginning of the year, a portfolio has a value of $400,000. 6 months later the portfolio is valued at $420,000. The annual percentage return on the portfolio is:
10% This portfolio has grown in value from $400,000 to $420,000 over 6 months. Thus, the portfolio has grown by $420,000/$400,000 = 5% over 6 months. Since this is a 6 month return, an annualized rate of return is 2 times 5% or a 10% annual rate of return.
An investment in common stock provides dividends equal to 4% per year and expected long term capital gains equal to 8% per year. For a lower-earning investor in the 30% tax bracket, the after-tax rate of return is:
10.20% Dividends and long-term capital gains are taxed at a maximum rate of 15% for lower earners and 20% for the highest earners. Thus, the after-tax rate of return on the dividends is 4% (100% - 15% Tax Bracket) = 3.4%; and capital gains is 8% (100% - 15% Tax Bracket) = 6.8%. Thus, the after-tax rate of return is 3.4% + 6.8% = 10.2%.
DEFF stock has a beta of +1.5. The expected market rate of return is 8% and the risk-free rate of return is 2%. The standard deviation of returns is 3%. Using the Capital Asset Pricing Model (CAPM), what is the expected rate of return for DEFF stock?
11%
An investor buys 1,000 shares of ABCD stock at $50 per share. At the end of the 1st year, ABCD has increased to $60 per share. At the end of the 2nd year, ABCD has increased to $75 per share. At the end of the 3rd year, ABCD has decreased to $70 per share. Assuming that the customer is in the 15% tax bracket for dividends and long-term capital gains, if the customer liquidates the position at the end of year 3, the after-tax annualized rate of return is:
11.33% This investment has increased from $50 in value to $70 in value over 3 years. The $20 gain will be taxed at 15%; so 85% of the gain is kept after tax. .85 x $20 = $17 after-tax gain / 3 year holding period = $5.66 annualized after-tax gain / $50 original investment = 11.33% annualized rate of return.
Given the set of the following numbers: 6, 7, 7, 14, 11, 2, 9, what is the range?
12
EFFE stock has a beta of +1.5. The expected market rate of return is 10% and the risk-free rate of return is 2%. The standard deviation of returns is 1%. Using the Capital Asset Pricing Model (CAPM), what is the expected rate of return for EFFE stock?
14%
XYZZ stock has a beta of +2. The expected market rate of return is 9% and the risk-free rate of return is 1%. The standard deviation of returns is 2%. Using the Capital Asset Pricing Model (CAPM), what is the expected rate of return for XYZZ stock?
17% CAPM finds the "expected return of an investment" using the formula: Expected Return of An Investment =Risk-Free Rate of Return + Risk Premium* *Risk Premium is: Beta x (Expected Market Return- Risk-Free Rate of Return) Basically, the Risk Premium is the excess of the expected market rate of return over the risk-free rate of return multiplied by the risk level of the investment as measured by beta. Because the expected market rate of return is 9% and the risk-free rate of return is 1%, the risk premium is 8% x 2 beta = 16%. Thus, the Expected Return of The Investment is: 1% Risk-Free Rate of Return + 16% Risk Premium = 17%. Note that Standard Deviation has nothing to do with the formula and is a distractor in the question.
1-year Treasury investments yield 4%; while a "high tech" common stock investment yields 25%. The equity risk premium is:
21%
An investor buys a bond. At the end of the first year, the bond is worth $1,300. During the year, the investment paid $20 in interest and had a capital gain of $250. What is the Total Return?
25.71%
An individual, age 42, who was laid off from her job at a major corporation has decided to "work for herself" and has purchased a Dunkin Donuts franchise for $200,000. After 1 year, she receives an excellent job offer from another company and decides to return to the corporate workforce. She puts her franchise up for sale and receives an offer of $210,000. Over the 1 year time-frame that she owned the franchise, the inflation rate as measured by the Consumer Price Index, increased by 2%. If she sells the franchise, her real rate of return will be:
3% After holding her investment for 1 year, it increased in value from $200,000 to $210,000, for an annual return of $210,000/$200,000 = 5%. However, because inflation increased by 2% over the same period, her real rate of return was 5% - 2% = 3%.
A customer in the 35% tax bracket purchases a 5%, 10 year corporate bond. The after-tax yield is:
3.250% The after-tax yield is = 5% (100% - 35%) = 5% x .65 = 3.25%
A client is in the 30% combined federal and state tax bracket. The client purchased $10,000 of ABCD stock. The ABCD position has appreciated to $10,500 within a few months, at which point the investment was sold. In addition, ABCD has paid the client a $500 dividend. What is the investment's after-tax yield?
3.50% This question is attempting to confuse yield and return. An investment's yield is based only on income received - dividends and interest. An investment's return, also called total return, includes both income and capital gain (or loss). This question is asking for yield. $500 of dividends were received, and because the client is in the 30% tax bracket, only $350 is retained after tax. $350 / $10,000 invested = 3.50% yield.
An investment in a company has a 30% probability of yielding 5%; a 40% probability of yielding 9%; and a 30% probability of yielding -2%. The expected rate of return is:
4.50%
An investment generates the following annual returns: Year 1 : 6% Year 2 : 4% Year 3 : 2% Year 4 : 10% Year 5 : 8% The median return is
6%
An investor buys a security at $95 per share. The stock rises to a high of $105 and ends the year at $99 per share. The stock paid a $3 dividend during the year. What is the investor's total return?
7.37% (Income + Capital Gain)/Cost of Security = Total Return
A customer buys a TIPS at par with a 3½% coupon. Inflation stays at 4% over the life of the security. What is the total return on the investment?
7½%
When making an investment decision using CAPM, the interest rate that would be used as the minimum hurdle rate is the:
90 day Treasury Bill rate
Which portfolio allocation is most likely to have the highest "beta?"
90% stocks / 10% bonds
A portfolio of securities with a beta of 1.5 has produced an average annual return of 18%. Which investment should the portfolio manager consider adding?
A stock with a 10% growth rate anda beta of .8
A portfolio of securities with a beta of 1.2 has produced an average annual return of 12%. Which investment should the portfolio manager NOT consider adding?
An investment with a 20% growth rate and a beta of 2.2
The formula for Return on Investment (ROI) is:
Average Annual Cash Flow / Initial Investment Outlay
What formula finds the "expected return" of an investment?
CAPM
"High Risk Investment = High Return Investment" "Low Risk Investment = Low Return Investment" This is an example of:
Correlation
All of the following are components of the Capital Asset Pricing Model EXCEPT: Risk-Free Rate of Return Beta Delta Expected Market Rate of Return
Delta
The rate of return that an individual investor earns over time in a mutual fund, including the timing of cash inflows and outflows, is the:
Dollar Weighted Average Return
A customer, age 30, believes that equity investments for growth are the best choice for his long-term investment goals. He does not believe that asset managers can outperform the market over long time periods and doesn't wish to pay for them. The best recommendation for this customer is the purchase of:
Equity Index Fund Shares
A broadly diversified portfolio: I is subject to market risk II is not subject to market risk III can have its systematic risk reduced by the purchase of index puts IV cannot have its systematic risk reduced because it is fully diversified
I and III
The semi-strong form of efficient market theory states that: I stock prices instantaneously reflect all publicly available information II stock prices instantaneously reflect all non-public information III insiders have an inherent advantage when making investment decisions IV insiders have no advantage when making investment decisions
I and III
Which of the following statements are TRUE about non-systematic risk? I It is the same as stock specific risk II It is the same as market risk III It can be diversified away IV It cannot be diversified away
I and III
Which statements are TRUE about speculative stocks that are included in a portfolio allocation model? Speculative stocks have: I higher expected returns than other securities included in the portfolio II lower expected returns than other securities included in the portfolio III higher standard deviations (risk) than other securities included in the portfolio IV lower standard deviations (risk) than other securities included in the portfolio
I and III
Which statements are TRUE? I The weak form of efficient market theory states that past price movements of stocks cannot be used to predict future price movements II The weak form of efficient market theory states that past price movements of stocks can be used to predict future price movements III The strong form of efficient market theory states that current securities prices fully and instantaneously reflect all information, whether it is publicly available or not IV The strong form of efficient market theory states that current securities prices fully and instantaneously reflect all publicly available information, but not inside information
I and III
Which of the following are characteristics of growth stocks? I Low dividend payout ratios II Low price to book value ratios III Low price-earnings ratios
I only
Which of the following are needed to calculate the Sharpe Ratio? I Risk measured by variability of return II Actual rate of return on an investment III Real Rate of Return IV Rate of return on an investment with zero risk
I, II and IV
Total Return is an appropriate measure of performance for: I Common stocks II Preferred stocks III Bonds
I, II, III
When comparing dollar-weighted average return to time-weighted average return for a mutual fund investor, which statements are TRUE? I Time Weighted Average Return is affected by new cash inflows or outflows II Time Weighted Average Return is not affected by new cash inflows or outflows III Dollar Weighted Average Return is affected by new cash inflows or outflows IV Dollar Weighted Average Return is not affected by new cash inflows or outflows
II and III
Which statements are TRUE? I Alpha measures a stock's price volatility relative to the market as a whole II Alpha measures a stock's price volatility relative to stock specific (non-market) factors III Beta measures a stock's price volatility relative to the market as a whole IV Beta measures a stock's price volatility relative to stock specific (non-market) factors
II and III
The strong form of efficient market theory states that: I stock prices instantaneously reflect all publicly available information II stock prices instantaneously reflect all public and non-public information III insiders have an inherent advantage when making investment decisions IV insiders have no advantage when making investment decisions
II and IV
One of the key assumptions of the Capital Asset Pricing Model is that:
Investors are rational Key assumptions backing the Capital Asset Pricing Model are: Investors are risk averse and are rational, seeking a higher return for taking on greater risk Investors do not consider taxes when making investment decisions All investors hold securities for the same time period There are no transaction costs All investors have access to the same market information Thus, CAPM does not reflect the real world, but it can give an approximation of the rate of return required to make an investment, based on the requirement that the investor earn the risk free rate of return plus a risk premium.
Which of the following is a computer-driven analysis of possible portfolio returns that can be achieved based on varying factors?
Monte Carlo Simulation
Which of the following is NOT considered to be a cyclical stock? Home appliance manufacturer Automobile manufacturer Natural gas producer Home builder
Natural gas producer
Which form of efficient market theory states that stock prices respond rapidly to publicly available information, so that no potential gains can be made by trading on that information? Weak Form Semi-Weak Form Semi-Strong Form Strong Form
Semi-Strong Form
Weak Form
States that prices reflect all past publicly available information, but that this has no validity for predicting future price movements. It essentially states that price movements are random. This implies that technical analysis is basically useless to improve returns, but fundamental analysis still has potential value.
Strong Form:
States that prices respond rapidly to both publicly available and private information, so that no one can profit by trading on this information.
Semi-Strong Form:
States that prices respond rapidly to publicly available information, so that no potential gains can be made by trading on that information. This implies that anyone with inside information has an inherent advantage and can profit by trading on it.
When all information about a company, both publicly available and not publicly available, is reflected in the market price of the company's stock, this is known as:
Strong-Form Efficient Market Theory
The portfolio return measure that calculates a mean rate of return from a probability distribution of all potential rates of return is:
The portfolio return measure that calculates a mean rate of return from a probability distribution of all potential rates of return is:
The risk free rate of return is the return provided by which of the following investments? Municipals Agencies Common stocks Treasuries
Treasuries
Which form of efficient market theory states that one cannot detect mispriced assets and consistently outperform the market through technical analysis of past prices? Weak Form Semi-Weak Form Semi-Strong Form Strong Form
Weak Form
The measure of a stock's return arising from stock specific (non-systematic) risk is:
alpha
An investment adviser that uses a "top down" approach to portfolio management will:
analyze the entire economic outlook to sort out the areas for higher growth potential
A customer is told by a bank that his investment will pay interest at the rate of .3% per month. This would be the same as telling the customer that his or her:
annual percentage rate is 3.6%
When computing standard deviation of returns against the mean, the measure used for the mean is:
arithmetic mean
The measure of stock price volatility relative to the market is:
beta
A portfolio with a beta of more than +1 has:
both systematic and non-systematic risk
An analyst evaluates a company's market prospects, sales growth, product line, profitability, cash flow, capital structure, price/earnings ratio and dividend yield and then compares these to other companies that are in the same economic sector to decide which company is the superior investment. This is an example of:
bottom up investment approach
The process by which future value is determined is known as:
compounding
The efficient market theory states that:
current securities prices fully reflect all available information
The purchaser of an index stock fund believes in:
efficient market theory
Monte Carlo simulation:
establishes a frequency distribution of investment returns over a range of different conditions
The rate of return that considers compounding of returns of the time horizon of an investment is:
geometric rate of return
When comparing dollar-weighted average return to time-weighted average return for a mutual fund investor, the returns will be the same:
if no withdrawals are made and dividends are reinvested
A customer who believes in efficient market theory would invest in a(n):
index fund
All of the following statements about Time Weighted Average Return are true EXCEPT that Time Weighted Average Return:
is the same as Dollar Weighted Average Return
The dividend discount model can be used to value:
mature companies
Which of the following stocks would be considered defensive? A automobile manufacturer B pharmaceutical manufacturer C gold mining company D computer software developer
pharmaceutical manufacturer
Monte Carlo simulation is used to assess a portfolio's:
probability of achieving investment returns under varying conditions
An investor has a broadly diversified portfolio of blue chip stocks. The use of index options to hedge the portfolio:
reduces systematic risk
The Sharpe ratio measures the:
risk adjusted rate of return relative to portfolio volatility
The Sharpe Ratio is a measure of:
risk-adjusted return
If the Required Rate of Return (RRR) on a security is more than the Internal Rate of Return (IRR) on that security, then the:
security should not be purchased for investment
A portfolio with a beta of +1 has:
systematic risk
Market risk is the same as:
systematic risk
An individual is given the choice of receiving $1,000,000 today; or of receiving $100,000 per year for the next 15 years, for a total of $1,500,000 to be received. The difference of $500,000 between the 2 amounts is due to the:
time value of money
Using the CAPM approach to making an investment decision, an investor will:
use the risk-free rate of return as the baseline return and add to it an estimated risk premium based on the beta coefficient of that investment to find the expected return of that investment
Standard deviation measures the:
variability of investment returns
