Finance Exam #2 Review Questions

14. How much would you pay for a semi-annual 6% coupon bond with 25 years left until maturity that yields 3.50%? a. $1,414.27 b. $994.24 c. $1,412.04 d. $678.38 e. None of these

a. $1,414.27

13. What is the fair price for a bond with a 5.5% annual coupon and 8 years left until maturity that yields 9%? a. $806.28 b. $1,221.71 c. $304.42 d. $803.40 e. None of these

a. $806.28

12. A treasury bond that matures in 10 years has a yield of 3.7%. A 10-year corporate bond has a yield of 7% and a default risk premium of 2%. What is the liquidity premium of the corporate bond? a. 1.3% b. 5.7% c. 3.3% d. 1.7% e. None of the other answers

a. 1.3%

16. Fay Corp. bonds have 7 years left until maturity. Interest is paid annually and the coupon rate is 8%. The bonds are currently selling for $890. What is the yield to maturity of this bond? a. 10.28% b. 9.45% c. 6.67% d. 5.11% e. None of the above

a. 10.28%

20. Suppose you bought one share of a corporation for $30 at the beginning of the year. The corporation pays a dividend of $0.75 each quarter. At the end of the year the stock is worth $35. What is the capital gains yield? a. 16.67% b. 26.67% c. 19.17% d. 14.29% e. None of the above.

a. 16.67%

15. What is the yield to maturity of a 7% annual coupon bond that has 8 years left until maturity and costs $1085? a. 5.65% b. 6.00% c. 7.7% d. 8.00% e. None of these

a. 5.65%

4. If the Treasury yield curve is downward sloping, how should the yield to maturity on a 10-year Treasury coupon bond compare to that on a 1-year T-bill? a. The yield on a 10-year bond would be less than that on a 1-year bill. b. The yield on a 10-year bond would have to be higher than that on a 1 year bill because of the maturity risk premium. c. It is impossible to tell without knowing the coupon rates of the bonds. d. The yields on the two securities would be equal. e. It is impossible to tell without knowing the relative risks of the two securities.

a. The yield on a 10-year bond would be less than that on a 1-year bill.

5. Which of the following describes a case in which it would be a good idea for you to purchase a zero coupon bond instead of a coupon bond? a. You are trying to minimize reinvestment risk. b. You are trying to minimize interest rate risk. c. You are trying to minimize default risk. d. You are expect interest rates to increase in the future. e. None are good reasons.

a. You are trying to minimize reinvestment risk.

21. Suppose that Skecher's stock paid a dividend of $0.80 last year and that the dividend is expected to grow by a constant rate of 6% per year. Skecher's beta is 1.24, the current risk-free rate is 2% and the market risk premium is 7%. What is the intrinsic value (current price) of Skecher's stock? a. $10.68 b. $18.12 c. $17.09 d. $84.80 e. None of the above

b. $18.12

18. If you purchased a semi-annual 8% coupon bond for $1185.00, that yields 6%, how many years are left before this bond matures? a. 27.39 b. 13.70 c. 7.06 d. 14.12 e. None of these

b. 13.70

19. Steve Madden, Ltd. currently has a beta of 1.72. If the current risk-free interest rate is 1.5% and the average return to the market is 6%, what is Steve Madden's cost of equity? a. 6.00% b. 9.24% c. 11.82% d. 8.58% e. None of the above

b. 9.24%

9. Which of the following is CORRECT? a. Stocks are contracts with a required return. b. Bonds are contracts with a required payment. c. If stock dividends are not paid then the stock holders can take the company to court. d. Bonds represent an ownership contract. e. None of the above.

b. Bonds are contracts with a required payment.

8. Stocks A and B have the following data. Assuming the stock market is efficient, the stocks are expected to grow at a constant rate, and the stocks are in equilibrium, which of the following statements is CORRECT? ..................................(Stock) A (Stock) B Required return......10%..........12% Market price........$25...........$40 Expected growth...7%...........9% a. These two stocks should have the same price. b. These two stocks must have the same dividend yield. c. These two stocks should have the same expected return. d. These two stocks must have the same expected capital gains yield. e. These two stocks must have the same expected year-end dividend.

b. These two stocks must have the same dividend yield.

17. Katia Corp. bonds have 17 years left until maturity. The bonds are currently trading for $1440 and the yield to maturity is 8%. What is the annual coupon rate if the bonds pay semiannually? a. 12.92% b. 6.39% c. 12.78% d. 8.16% e. None of the above

c. 12.78%

3. Assume that inflation is expected to decline steadily in the future, but that the real risk-free rate, r*, will remain constant. Which of the following statements is CORRECT, other things held constant? a. If there is a positive maturity risk premium, the Treasury yield curve must be upward sloping. b. If inflation is expected to decline, there can be no maturity risk premium. c. If the pure expectations theory holds, the Treasury yield curve must be downward sloping. d. If the pure expectations theory holds, the corporate yield curve must be downward sloping. e. The expectations theory cannot hold if inflation is decreasing.

c. If the pure expectations theory holds, the Treasury yield curve must be downward sloping.

10. Which of the following statements is CORRECT? a. The beta of a portfolio of stocks is always smaller than the betas of any of the individual stocks. b. If you found a stock with a zero historical beta and held it as the only stock in your portfolio, you would by definition have a riskless portfolio. c. The beta coefficient of a stock is normally found by regressing past returns on a stock against past market returns. One could also construct a scatter diagram of returns on the stock versus those on the market, estimate the slope of the line of best fit, and use it as beta. However, this historical beta may differ from the beta that exists in the future. d. The beta of a portfolio of stocks is always larger than the betas of any of the individual stocks. e. It is theoretically possible for a stock to have a beta of 1.0. If a stock did have a beta of 1.0, then, at least in theory, its required rate of return would be equal to the risk-free (default-free) rate of return, rRF.

c. The beta coefficient of a stock is normally found by regressing past returns on a stock against past market returns. One could also construct a scatter diagram of returns on the stock versus those on the market, estimate the slope of the line of best fit, and use it as beta. However, this historical beta may differ from the beta that exists in the future.

2. Which of the following is true? a. Corporate yield curves are lower than that of Treasury securities. b. Corporate yield curves are parallel to the treasury curve. c. The spread between corporate and Treasury yield curves widens as the corporate bond get riskier. d. Corporate yield curves cannot be downward sloping. e. None of the above

c. The spread between corporate and Treasury yield curves widens as the corporate bond get riskier.

1. Which statement is correct? a. Long-term bonds have lower interest rate risk than short-term bonds. b. Short-term bonds have lower reinvestment rate risk than long-term bonds. c. If a bond's yield to maturity exceeds its coupon rate, the bond will sell at a premium over par. d. All else equal, if a bond's yield to maturity increases, its price will fall. e. The higher the probability of default, the lower the yield to maturity will be.

d. All else equal, if a bond's yield to maturity increases, its price will fall.

6. Which of the following statements is most likely to be CORRECT? a. The beta of an airline company is less than 1. b. The beta of a Treasury Bill is 1. c. The beta of the S&P500 index is 0. d. The beta of a luxury jewelry store is greater than 1. e. The beta of a fast food chain is less than 0.

d. The beta of a luxury jewelry store is greater than 1.

11. Stock A's beta is 1.5 and Stock B's beta is 0.5. Which of the following statements must be true, assuming the CAPM is correct. a. Stock A would be a more desirable addition to a portfolio then Stock B. b. In equilibrium, the expected return on Stock B will be greater than that on Stock A. c. When held in isolation, Stock A has more risk than Stock B. d. Stock B would be a more desirable addition to a portfolio than A. e. In equilibrium, the expected return on Stock A will be greater than that on B.

e. In equilibrium, the expected return on Stock A will be greater than that on B.

7. You have the following stock data: StocK.....Prior Year Return......Standard Deviation Beta A.....5.26%.........9%.........................1.31 B......7.34%.........8%.........................1.42 Which of the following is CORRECT? a. The capital gains yield of Stock A was 5.26%. b. The expected return of Stock B is expected to be 11.26% c. Stock A has more systematic risk exposure. d. Stock B is expected to earn a lower future return than Stock A. e. Stock A has higher total risk.

e. Stock A has higher total risk.