Chapter 2

Which of the following are advantages of private​ placements?

1. Reduced flotation costs 2. Financing flexibility 3. Speed

What are benefits provided by the existence of organized security​ exchanges?

1. Helping businesses raise new capital 2. A continuous market 3. Establishing and publicizing fair security prices

Which of the following describe what is meant by the​ "NASDAQ system"?

1. NASDAQ stands for National Association of Security Dealers Automated Quotation System. 2. NASDAQ is a quotation​ system, not a transactions system. The final trade is still consummated by direct negotiation between traders. 3. NASDAQ is a telecommunications system that provides a national information link among the brokers and dealers operating in the​ over-the-counter markets.

What are disadvantages of private​ placements?

1. Possibility that the security may have to be registered some time in the future at the​ lender's option 2. Imposition of several restrictive covenants 3. Interest costs

What securities are distributed to final​ investors?

1. Privileged subscription 2. Negotiated purchase 3. Direct sale 4. Commission basis 5. Competitive-bid purchase 6. Dutch Auction

Which of the following represents the correct ordering of standard deviation of returns over the period 1926 to 2008 (from highest to lowest standard deviation of returns)?

1. Small firm common stocks, 2. Common stocks, 3. Long-term corporate bonds, 4. Treasury bills

An example of a primary market transaction is

1. Treasury bills, 2. Long-term corporate bonds, 3. Common stocks, 4. Small firm common stocks

Identify the major reasons why underdeveloped countries remain underdeveloped.

1. Underdeveloped countries lack effective financial market systems. 2. Underdeveloped countries lack political stability.

What are the two major categories of flotation​ costs?

1. Underwriters' spread 2. Issuing Costs

Whatre the major functions that an investment banker​ performs?

1. Underwriting 2. Distributing 3. Advising

Activities of the investment banker include

1. assuming the risk of selling a security issue. 2. selling new securities to the ultimate investors. 3. providing advice to firms issuing securities.

Insurance companies invest in the "long-end" of the securities market by purchasing securities with longer maturities. In which of the following instruments would an insurance company be least likely to invest most of its assets?

1. the unbiased expectations theory 2. the liquidity preference theory 3. the market segmentation theory Correct Answer 4. the Fisher Effect theory

What are normally considered a "flotation costs"?

1. underwriter's spread 2. legal fees 3. printing and engraving expenses

During the period 1984 to 2008, the average yield on 3-Month U.S. Treasury bills was 4.76%, the average inflation rate was 2.97%, the average yield on 30-year Treasury bonds was 6.89%, and the average return on 30-year Aaa-Rated Corporate Bonds was 7.73%. The real risk-free short-term interest rate is

1.79%.

You are considering an investment in a U.S. Treasury bond but you are not sure what rate of interest it should pay. Assume that the real risk-free rate of interest is 1.0%; inflation is expected to be 1.5%; the maturity risk premium is 2.5%; and, the default risk premium for AAA rated corporate bonds is 3.5%. What rate of interest should the U.S. Treasury bond pay?

5.0%

You are considering an investment in a AAA-rated U.S. corporate bond but you are not sure what rate of interest it should pay. Assume that the real risk-free rate of interest is 1.0%; inflation is expected to be 1.5%; the maturity risk premium is 2.5%; and, the default risk premium for AAA rated corporate bonds is 3.5%. What rate of interest should the U.S. corporate bond pay?

8.5%

At​ present, 10-year Treasury bonds are yielding 4.3​% while a​ 10-year corporate bond is yielding 6.4​%. If the​ liquidity-risk premium on the corporate bond is 0.4​%, what is the corporate​ bond's default-risk​ premium? Note that a Treasury security should have no​ default-risk premium and​ liquidity-risk premium.

The corporate​ bond's default-risk premium is 1.7​%

What would you expect the nominal rate of interest to be if the real rate is 4.3 percent and the expected inflation rate is 6.5 ​percent?

The nominal rate of interest is 11.07​%. Nominal rate of interest= .043 + .068 + (.043 x .068)= .01107 or 11.07%

(Calculating the​ maturity-risk premium​) At​ present, the real​ risk-free rate of interest is 1.1​%, while inflation is expected to be 1.9​% for the next two years. If a​ 2-year Treasury note yields 6.5​%, what is the​ maturity-risk premium for this​ 2-year Treasury​ note?

The​ maturity-risk premium for the​ 2-year Treasury note is 3.5​%.

General Electric (GE) has been a public company for many years with its common stock traded on the New York Stock Exchange. If GE decides to sell 500,000 shares of new common stock, the transaction will be describe as..

a seasoned equity offering because GE has sold common stock before.

The risk premium would be greater for an investment in an oil and gas exploration in unproven fields than an investment in preferred stock because

both oil and gas exploration investments have a greater variability in possible returns and the preferred stock is more liquid

Flotation costs are the highest​ on:

common stock.

An actively traded, AAA-rated, Intel Corporation bond, maturing in 2015, provides an expected yield of 8%. The AAA-rated bond of a local Chicago-based company, not actively traded on any exchange, maturing in 2015, provides an expected yield to investors of 10%. The difference in expected yields is primarily due to

liquidity premium.

Suppose the following rates are averages for banks in your area: interest checking accounts pay 1%, savings accounts pay 2%, and one-year certificates of deposit pay 3%. All accounts are federally insured by the FDIC. The difference in rates can be explained mainly by

liquidity premiums.

Commercial banks that also provide investment banking services are called

universal banks.

The maturity-risk premium can be defined as the additional return required by investors in​ longer-term securities​ (bonds in this​ case) to compensate them for the greater risk of price fluctuations on those securities caused by interest rate​ changes;

whereas, the liquidity-risk premium is defined as the additional return required by investors in securities that cannot be quickly converted into cash at a reasonably predictable price.