Finance Unit 2 Test

If interest rates are expected to increase, invest in long-term or short-term bonds?

Short-term bonds

Which one of the following statements is NOT true? a. All other things being equal, short-term bonds are less risky than long-term bonds. b. Higher coupon rate bonds have lower price volatility than lower coupon rate bonds. c. The percentage increase in bond price for a one percent decrease in interest rate is smaller than the percentage decrease in bond price due to a one percent increase in interest rate. d. Interest rate risk increases as maturity increases.

c. The percentage increase in bond price for a one percent decrease in interest rate is smaller than the percentage decrease in bond price due to a one percent increase in interest rate.

Which of the following statements is NOT true about common stock? a. Common-stock holders have the right to vote on the election of the board of directors of their company. b. Common stock is considered to have no fixed maturity. c. Owners of common stock are guaranteed dividend payments by the firm. d. Common-stock holders have limited liability toward the obligations of the corporation.

c. Owners of common stock are guaranteed dividend payments by the firm.

Given the historical market performance, which of the following investment classes had the greatest average return and highest variability in returns? a. Intermediate-Term Government Bonds b. Long-Term Government Bonds c. Small U.S. Stocks d. Large U.S. Stocks

c. Small U.S. Stocks

Which of the following statements is NOT true about preferred stock? a. Preferred stock represents ownership in the firm. b. Preferred stockholders receive fixed dividend payments from the firm. c. Preferred stock dividends are paid by the issuer with after-tax dollars. d. Preferred stock has a lower-priority claim on the firm's assets than the common stock.

d. Preferred stock has a lower-priority claim on the firm's assets than the common stock.

Which of the following statements is NOT true about preferred stock? a. All of the choices are true. b. Preferred stock holders have no voting privileges relative to common-stock owners. c. Preferred stock dividends are paid by the issuer with after-tax dollars. d. Preferred stockholders are not eligible for promised dividend payments by the firm.

d. Preferred stockholders are not eligible for promised dividend payments by the firm.

Diversification means: a. All the above are possible. b. Standard deviation of the portfolio is greater than the weighted average of the standard deviation of individual assets. c. Standard deviation of the portfolio equal the weighted average of the standard deviation of individual assets. d. Standard deviation of the portfolio is less than the weighted average of the standard deviation of individual assets.

d. Standard deviation of the portfolio is less than the weighted average of the standard deviation of individual assets.

Which of the following statements regarding the coefficient of variation and Sharpe ratio is NOT true? a. The higher the Sharpe ratio, the better the investment. b. Sharpe ratio is more commonly used to compare investments than the coefficient of variation. c. The sharpe ratio is calculated by dividing the risk premium by standard deviation. d. The higher the coefficient of variation, the better the investment.

d. The higher the coefficient of variation, the better the investment.

Which one of the following statements is NOT true? a. The shape of the yield curve is not constant over time. b. As the general level of interest rises and falls over time, the yield curve shifts up and down and has different slopes. c. Yield curves show graphically how market yields vary as the term to maturity changes. d. The relationship between yield and marketability is known as the term structure of interest rates.

d. The relationship between yield and marketability is known as the term structure of interest rates.

Which of the following statements is most true about zero-coupon bonds? a. They typically sell at a premium over par when they are first issued. b. They typically sell for a higher price than similar coupon bonds. c. They are always convertible to common stock. d. They typically sell at a deep discount below par when they are first issued.

d. They typically sell at a deep discount below par when they are first issued.

Which of the following are included in Bogleheads three-fund portfolio: a. Bonds, real estate, and commodities b. International stocks, bonds, and real estate c. U.S. stocks, bonds, and real estate d. U.S. stocks, international stocks, and bonds

d. U.S. stocks, international stocks, and bonds

To form a portfolio of two assets, which of the following assets would you choose: a. assets with a correlation of 1.0 b. assets with a correlation of 0.5 c. assets with a correlation of -0.1 d. assets with a correlation of -0.5

d. assets with a correlation of -0.5 (>> choose assets that are negative and furtherest away from 0)

A portfolio with a level of systematic risk that is the same as that of the market has a beta that is __. a. equal to zero. b. less than the beta of the risk-free asset. c. less than zero. d. equal to one.

d. equal to one.

Based on the Asset Class Correlation Table, which one of the following assets has a negative correlation with U.S. equities? a. emerging market equities b. international market equities c. high yield bonds. d. investment grade bonds

d. investment grade bonds

A portfolio with a level of systematic risk that is less than that of the market has a beta that is a. equal to zero. b. equal to one. c. less than the beta of the risk-free asset. d. less than one

d. less than one

a debt instrument that promises a fixed income stream to the holder

Bond

Which one of the following statements is true? a. All of the choices are true. b. A bond's yield to maturity changes daily as interest rates increase or decrease. c. The yield to maturity of a bond is the discount rate that makes the present value of the coupon and principal payments equal to the price of the bond. d. The yield to maturity is the yield that the investor earns if the bond is held to maturity, and all the coupon and principal payments are made as promised.

a. All of the choices are true.

Which of the following statements regarding the coefficient of variation and Sharpe ratio is NOT true? a. Coefficient of variation is more commonly used to comparing investments than Shaper ratio. b. Sharper ratio is calculated by dividing the risk premium by standard deviation. c. The lower the coefficient of variation, the better the investment. d. The higher the Sharpe ratio, the better the investment.

a. Coefficient of variation is more commonly used to comparing investments than Shaper ratio.

Which ONE of the following statements is true about dealer markets? a. The advantage of a dealer over a brokered market is that brokers cannot guarantee that an order will be executed promptly, while dealers can because they have an inventory of securities. b. All of the choices are true. c. A dealer market involves time-consuming search for a fair deal. d. NYSE is the best-known example of a dealer market.

a. The advantage of a dealer over a brokered market is that brokers cannot guarantee that an order will be executed promptly, while dealers can because they have an inventory of securities.

What is the shape of the current yield curve? a. Upward sloping b. Inverted c. Flat d. None of the above

a. Upward sloping

If a bond's coupon rate is less than the market rate of interest, then the bond will sell: a. at a discount. b. at a premium. c. at par. d. None of the above is true.

a. at a discount.

The yield to maturity of a bond is the discount rate that makes the present value of the coupon and principal payments: a. equal to the price of the bond. b. less than the price of the bond. c. exceed the price of the bond. d. equal to zero.

a. equal to the price of the bond.

A portfolio with a level of systematic risk that is the same as that of the risk-free asset has a beta that is a. equal to zero. b. equal to one. c. greater than one. d. less than zero.

a. equal to zero. because risk free β = 0 (risk = 0)

The risk of recession is __________; the risk of new product failure is ___________. a. systematic risk; unsystematic risk b. systematic risk; systematic risk c. unsystematic risk; unsystematic risk d. total risk; systematic risk

a. systematic risk; unsystematic risk

Which of the following statements is true of zero coupon bonds? a. The most frequent and regular issuer of zero coupon securities is the U.S. Treasury Department. b. All of the choices are true. c. Zero coupon bonds have no coupon payments over its life and only offer a single payment at maturity. d. Zero coupon bonds sell well below their face value (at a deep discount) because they offer no coupons.

b. All of the choices are true.

Which of the following is the best measure of the systematic risk in a portfolio? a. Standard deviation b. Beta c. Covariance d. Variance

b. Beta

Which ONE of the following statements is true about secondary markets in the United States? a. Firms listed on the NYSE tend to be, on average, more volatile than firms whose securities trade on NASDAQ. b. In terms of the number of companies listed, NASDAQ is larger than the NYSE. c. In terms of total capitalization of the firms listed, the NASDAQ is the largest in the world and the NYSE is the second largest. d. Firms listed on the NASDAQ tend to be, on average, larger in size, than firms whose securities trade on NYSE.

b. In terms of the number of companies listed, NASDAQ is larger than the NYSE.

Which of the following statements is NOT true about secondary markets? a. In terms of the number of firms listed, NASDAQ is the largest stock market in the United States. b. In terms of the total stock value of the firms listed, the NASDAQ is the largest in the world and the NYSE is the second largest. c. Firms listed on the NYSE tend to be more stable and established. d. It is more expensive to list on the NYSE.

b. In terms of the total stock value of the firms listed, the NASDAQ is the largest in the world and the NYSE is the second largest.

Given the historical information in the chapter, which of the following investment classes had the least variability in returns? a. Small U.S. Stocks b. Intermediate-Term Government Bonds c. Large U.S. Stocks d. Long-Term Government Bonds

b. Intermediate-Term Government Bonds

Which of the following statements is NOT true? a. U.S. Treasury securities are the best proxy measure for the risk-free rate. b. Investors must pay a premium to purchase a security that exposes them to default risk. c. The risk that the lender may not receive payments as promised is called default risk. d. All of the choices are true statements.

b. Investors must pay a premium to purchase a security that exposes them to default risk.

Which one of the following statements is NOT true? a. The risk that the lender may not receive payments as promised is called default risk. b. Investors must pay a premium to purchase a security that exposes them to default risk. c. U.S. Treasury securities do not have any default risk and are the best proxy measure for the risk-free rate. d. The larger the default risk premium, the higher the probability of default.

b. Investors must pay a premium to purchase a security that exposes them to default risk.

Which of the following statements is NOT true about the general dividend valuation model? a. The model does not assume any specific pattern for future dividends, such as a constant growth rate. b. It makes a specific assumption about when the share of stock is going to be sold in the future. c. The model calls for forecasting an infinite number of dividends for a stock. d. The price of a share of stock is the present value of all expected future dividends.

b. It makes a specific assumption about when the share of stock is going to be sold in the future.

Which of the following statements is NOT true about common stock? a. Common-stock holders have limited liability toward the obligations of the corporation. b. Owners of common stock are guaranteed dividend payments by the firm. c. Common-stock holders have the right to vote on the election of the board of directors of their company. d. Common stock is considered to have no fixed maturity.

b. Owners of common stock are guaranteed dividend payments by the firm.

Given the historical information in the chapter, which of the following investment classes had the greatest average return? a. Intermediate-Term Government Bonds b. Small U.S. Stocks c. Large U.S. Stocks d. Long-Term Government Bonds

b. Small U.S. Stocks

Which of the following statements is not true? a. Unsystematic risk is firm-specific and can be diversified away in a portfolio. b. Systematic risk is measured by standard deviation. c. Systematic risk cannot be diversified away and is priced in the Capital Asset Pricing Model. (systematic risk = Beta) d. Total risk includes both systematic risk and unsystematic risk. (total risk = standard deviation)

b. Systematic risk is measured by standard deviation.

Which one of the following statements about bonds is NOT true? a. The expected future cash flows are estimated using the coupons that the bond will pay and the maturity value to be received. b. The value, or price, of any asset is the future value of its cash flows. c. To compute a bond's price, one needs to calculate the present value of the bond's expected cash flows. d. The required rate of return, or discount rate, for a bond is the market interest rate called the bond's yield to maturity

b. The value, or price, of any asset is the future value of its cash flows.

Which one of the following statements about bonds is NOT true? a. To compute a bond's price, one needs to calculate the present value of the bond's expected cash flows. b. The value, or price, of any asset, is the future value of its cash flows. c. The required rate of return, or discount rate, for a bond is the market interest rate called the bond's yield to maturity d. The expected future cash flows are estimated using the coupons that the bond will pay and the principal to be received at maturity.

b. The value, or price, of any asset, is the future value of its cash flows.

Which of the following statements is correct? a. The greater the risk associated with an investment, the lower the return investors expect from it. b. When choosing between two investments that have the same level of risk, investors prefer the investment with the higher return. c. If two investments have the same expected return, investors prefer the riskiest alternative. d. When choosing between two investments that have the same level of risk, investors prefer the investment with the lower return.

b. When choosing between two investments that have the same level of risk, investors prefer the investment with the higher return.

To form a portfolio of two assets, which of the following assets would you choose: a. assets with a correlation of 1.0 b. assets with a correlation of -0.1 c. assets with a correlation of 0.5 d. assets with a correlation of 0

b. assets with a correlation of -0.1

Bonds sell at a discount when the market rate of interest is: a. less than the bond's coupon rate. b. greater than the bond's coupon rate. c. None of the choices is true. d. equal to the bond's coupon rate.

b. greater than the bond's coupon rate.

The constant-growth dividend model will provide valid solutions when: a. the growth rate of the stock exceeds the required rate of return for the stock. b. the growth rate of the stock is less than the required rate of return for the stock. c. the growth rate of the stock is equal to the required rate of return for the stock. d. None of the above.

b. the growth rate of the stock is less than the required rate of return for the stock.

Which of the following statements is NOT true about constant-growth stocks? a. Far distant-dividends have a very small present value and add little to the stock's price. b. Mature companies with a history of stable growth show this pattern. c. Cash dividend remains constant over time. d. Dividends grow at a constant rate from one period to the next forever.

c. Cash dividend remains constant over time.

Which of the following are the three simplifying assumptions that cover most stock growth patterns? a. Dividends remain constant over time, dividends grow at a constant rate, and dividends are equal to zero. b. Dividends have a zero-growth rate, dividends grow at a varying rate, and dividends are equal to zero. c. Dividends remain constant over time, dividends grow at a constant rate, and dividends have a mixed growth pattern. d. None of the above.

c. Dividends remain constant over time, dividends grow at a constant rate, and dividends have a mixed growth pattern.

Which of the following statements about preferred stock is FALSE? a. Preferred stock typically pays a fixed dividend. b. Preferred stock has a lower-priority claim on the firm's assets than the firm's creditors in the event of default. c. Failure to pay dividends on preferred stocks will result in a default. d. Preferred stock has a higher-priority claim on the firm's assets than the common stock.

c. Failure to pay dividends on preferred stocks will result in a default.

Which of the following statements is NOT true about secondary markets? a. In terms of the number of firms listed, NASDAQ is the largest stock market in the United States. b. In terms of the total stock value of the firms listed, the NYSE is the largest in the world and the NASDAQ is the second largest. c. Firms listed on the NASDAQ tend to be more stable and established. d. It is more expensive to list on the NYSE.

c. Firms listed on the NASDAQ tend to be more stable and established.

Which one of the following statements is NOT true? a. Interest rate risk is the risk that bond prices will change as interest rates change. b. Interest rate changes and bond prices are inversely related. c. High-coupon bonds have more price volatility than low-coupon bonds of similar risk. d. Long-term bonds have more price volatility than short-term bonds of similar risk.

c. High-coupon bonds have more price volatility than low-coupon bonds of similar risk.

Which of the following statements is true? a. For a given change in market interest rates, the prices of higher-coupon bonds change more than the prices of lower-coupon bonds. b. If market interest rates rise, a 1-year bond will fall in value more than a 10-year bond. c. If market interest rates rise, a 10-year bond will fall in value more than a 1-year bond. d. If interest rates rise, bond prices will rise.

c. If market interest rates rise, a 10-year bond will fall in value more than a 1-year bond.

The beta of the utilities industry is: a. 1 b. Greater than 1 c. Less than 1 d. 0

c. Less than 1

Based on the Asset Class Correlation Table, Which of the portfolios below benefits the most from diversification? a. Investment-grade bonds and high-yield bonds. b. U.S. equities and emerging market equities c. U.S. equities and investment-grade bonds d. U.S. equities and international market equities

c. U.S. equities and investment-grade bonds

Preferred stock is sometimes treated like a debt security because: a. legally preferred stock is a debt security. b. preferred dividends are deductible from taxable income just like interest payments on bonds. c. preferred dividend payments are similar to bond interest payments and are fixed in nature regardless of the firm's earnings. d. preferred stockholders receive a residual value and not a stated value.

c. preferred dividend payments are similar to bond interest payments and are fixed in nature regardless of the firm's earnings.

Preferred stock is sometimes regarded as a debt security because a. preferred stockholders receive a residual value and not a stated value. b. preferred dividends are paid out of before-tax income just like interest payments on bonds. c. preferred dividend payments like bond interest payments are considered fixed obligations for the firm. d. legally preferred stock is a debt security.

c. preferred dividend payments like bond interest payments are considered fixed obligations for the firm.

The constant growth dividend model would be useful to determine the value of all, but which of the following firms? a. A firm whose earnings and dividends are declining at a fairly steady rate. b. A firm whose sales, profits, and dividends are growing at an annual average compound rate of 5 percent. c. A firm whose earnings and dividends are growing at a fairly steady rate. d. A firm whose expected sales, profits, and dividends are fluctuating.

d. A firm whose expected sales, profits, and dividends are fluctuating.

Which one of the following statements is NOT true? a. Interest rate risk is the risk that bond prices will change as interest rates change. b. Long-term bonds are more price volatile than short-term bonds of similar risk. c. Interest rate changes and bond prices are inversely related. d. As interest rates increase, bond prices increase.

d. As interest rates increase, bond prices increase.

Everything else equal, which one of the following has the highest yield? a. Treasury bonds b. AAA-rated corporate bonds c. BBB-rate corporate bonds d. CCC-rated corporate bonds

d. CCC-rated corporate bonds

Which of the following is NOT an example of investment diversification? a. Invest internationally b. Invest in different industries c. Invest in bonds, stocks, and mutual funds d. Invest in high technology firms in San Francisco Bay area

d. Invest in high technology firms in San Francisco Bay area