Finance

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Bond portfolio immunization techniques balance ________ and ________ risk. A. price; reinvestment B. price; liquidity C. credit; reinvestment D. credit; liquidity

A. price; reinvestment

If you are promised a nominal return of 12% on a 1-year investment, and you expect the rate of inflation to be 3%, what real rate do you expect to earn?

Real rate = (1.12/1.03) - 1 = 8.74%

Research conducted by Rubinstein (1994) suggests that _______________ command a disproportionately high time value. A. out of the money call options B. out of the money put options C. in the money call options D. in the money put options

Research suggests that option pricing models that allow for the possibility of ___________ provide more accurate pricing than does the basic Black-Scholes option pricing model. I. early exercise II. changing expected returns of the stock III. time varying stock price volatility A. II only B. I and III only C. II and III only D. I, II and III

A portfolio with a 25% standard deviation generated a return of 15% last year when T-bills were paying 4.5%. This portfolio had a Sharpe ratio of ____.

(15-4.5)/25 = .42

39. Annie's Donut Shops, Inc., has expected earnings of $3 per share for next year. The firm's ROE is 18%, and its earnings retention ratio is 60%. If the firm's market capitalization rate is 12%, what is the value of the firm excluding any growth opportunities? A. $25 B. $50 C. $83.33 D. $208

a Value with no growth = $3/.12 = $25

38. Ace Ventura, Inc., has expected earnings of $5 per share for next year. The firm's ROE is 15%, and its earnings retention ratio is 40%. If the firm's market capitalization rate is 10%, what is the present value of its growth opportunities? A. $25 B. $50 C. $75 D. $100

a Value with no growth = $5/.10 = $50 Growth rate = .4 × 15% = 6% Value with growth = $5 × (1 - .4)/(.10 - .06) = $75 PVGO = $75 - 50 = $25

Question: You have just made your first $5000 contribution to your individual retirement account. Assuming you earn a 10.5% rate of return and make no additional contributions. What will your account be worth when you retire in 45 years? What if you wait 10 years before contributing?

-$446,963.97 -$164,683.37 better start early!

Option chain

a list of available option contracts and their prices for a particular security arrayed by strike price and maturity.

Question: The Timberlake-Jackson Wardrobe Co has 10% coupon bonds on the market with 9 years left to maturity. The bonds make annual payments. If the bonds currently sell for $1145.70, what is the YTM?

-7.70%

If a bond has a call risk then what is it?

-Callable bond

What is an ordinary annuity?

-Payment starts right away

Same terms as par bond?

-discount bond -premium bond

Expiration month and strike price symbols:

-expiration month: Calls (A-L) Puts (M-X) -Strike price: *5 dollar increments to 100 (A-T) *$5 increments starting at 7.5 to 32.5 (U-Z)

Option Payoffs Diagrams

-give the payoffs, will be exercised only at expiration date.

Same term as theoretical value?

-intrinsic value -expected value

ow should we decide if the interest rate is good?

-it depends on the economic condition

What is TIPS?

-it's an agency to help investors from inflation

Would you pay for the bond for $935.82 if you think the appropriate interst rate is 6%

-yes it is indifferent

C. receive; pay

13. An investor who goes long in a futures contract will _____ any increase in value of the underlying asset and will _____ any decrease in value in the underlying asset. A. pay; pay B. pay; receive C. receive; pay D. receive; receive

A. liquidity; all traders must trade a small set of identical contracts

14. The advantage that standardization of futures contracts brings is that _____ is improved because ____________________. A. liquidity; all traders must trade a small set of identical contracts B. credit risk; all traders understand the risk of the contracts C. pricing; convergence is more likely to take place with fewer contracts D. trading cost; trading volume is reduced

C. equal to

16. In the futures market the short position's loss is ___________ the long position's gain. A. greater than B. less than C. equal to D. sometimes less than and sometimes greater than

A. sell wheat futures

17. A wheat farmer should __________ in order to reduce his exposure to risk associated with fluctuations in wheat prices. A. sell wheat futures B. buy wheat futures C. buy a contract for delivery of wheat now, and sell a contract for delivery of wheat at harvest time D. sell wheat futures if the basis is currently positive and buy wheat futures if the basis is currently negative

D. repurchase agreements

20. Interest rate futures contracts exist for all of the following except __________. A. Federal funds B. Eurodollars C. banker's acceptances D. repurchase agreements

A. 5%-15%

21. Initial margin is usually set in the region of ________ of the total value of a futures contract. A. 5%-15% B. 10%-20% C. 15%-25% D. 20%-30%

B. cash or highly marketable securities such as Treasury bills

25. Margin requirements for futures contracts can be met by ______________. A. cash only B. cash or highly marketable securities such as Treasury bills C. cash or any marketable securities D. cash or warehouse receipts for an equivalent quantity of the underlying commodity

C. maintenance margin

26. An established value below which a trader's margin may not fall is called the ________. A. daily limit B. daily margin C. maintenance margin D. convergence limit

A. Index arbitrage

30. Which one of the following exploits differences between actual future prices and their theoretically correct parity values? A. Index arbitrage B. Marking to market C. Reversing trades D. Settlement transactions

B. CFTC

37. Futures markets are regulated by the __________. A. AIMR B. CFTC C. CIA D. SEC

C. short; long

43. A long hedge is a simultaneous __________ position in the spot market and a __________ position in the futures market. A. long; long B. long; short C. short; long D. short; short

B. make; take

44. Investors who take short positions in futures contract agree to ___________ delivery of the commodity on the delivery date, and those who take long positions agree to __________ delivery of the commodity. A. make; make B. make; take C. take; make D. take; take

C. sell interest rate futures

45. An investor would want to __________ to hedge a long position in treasury bonds. A. buy interest rate futures B. buy treasury bonds in the spot market C. sell interest rate futures D. sell S&P 500 futures

A. the futures price minus the spot price

47. In the context of a futures contract, the basis is defined as ______________. A. the futures price minus the spot price B. the spot price minus the futures price C. the futures price minus the initial margin D. the profit on the futures contract

B. cash; actual

5. The S&P500 index futures contract is an example of a(n) ______ delivery contract. The pork bellies contract is an example of a(n) ______ delivery contract. A. cash; cash B. cash; actual C. actual; cash D. actual; actual

B. F0 = S0(1 + rf - d)T

50. When dividend paying assets are involved, the spot-futures parity relationship can be stated as _________________. A. F1 = S0(1 + rf) B. F0 = S0(1 + rf - d)T C. F0 = S0(1 + rf + d)T D. F0 = S0(1 + rf)T

B. long; short

52. A short hedge is a simultaneous __________ position in the spot market and a __________ position in the futures market. A. long; long B. long; short C. short; long D. short; short

D. long stock position

75. From the perspective of determining profit and loss, the long futures position most closely resembles a levered investment in a ____________. A. long call B. short call C. short stock position D. long stock position

A. S&P500

76. The _________ contract dominates trading in stock index futures. A. S&P500 B. DJIA C. Nasdaq 100 D. Russell 2000

In what industry are investors likely to use the dividend discount model and arrive at a price close to the observed market price? A. Utility B. Software C. Telecommunications D. Import/export trade

Which one of the following is equal to the ratio of common shareholders' equity to common shares outstanding? correct A. Book value per share B. Market value per share C. Liquidation value per share D. Tobin's q

A European call option allows the buyer to A. sell the underlying asset at the exercise price on the expiration date. B. buy the underlying asset at the exercise price on or before the expiration date. C. sell the option in the open market prior to expiration. D. buy the underlying asset at the exercise price on the expiration date. E. C and D.

A __________ is an option valuation model based on the assumption that stock prices can move to only two values over any short time period. A. nominal model B. binomial model C. time model D. Black-Scholes model

B(With a short put, the seller of the contract must buy the stock if the option is exercised; however, this cash outflow is offset by the premium income as in the covered call scenario.)

A covered call position is equivalent to a A. long put. B. short put. C. long straddle. D. vertical spread. E. none of the above.

A down-and-in option _______________. A. provides a payoff if the firm's stock price falls below some specified percentage of what it was at the beginning of the option term B. provides a payoff if the firm's stock price falls below some specified dollar amount during the term of the option C. expires worthless if the firm's stock price falls below some specified percentage of what it was at the beginning of the option term D. expires worthless if the firm's stock price falls below some specified dollar amount during the term of the option

A down-and-out option is one type of ________ option. A. barrier B. lookback C. digital D. Asian

A longer time to maturity will unambiguously increase the value of a call option because __________. I. the longer maturity time reduces the effect of a dividend on call price II. with a longer time to maturity the present value of the exercise price falls III. with a longer time to maturity the range of possible stock prices at expiration increases A. I only B. I and II only C. II and III only D. I, II and III

A one dollar increase in a stock's price would result in __________ in the call option's value of __________ than one dollar. A. a decrease; less B. a decrease; more C. an increase; less D. an increase; more

The ___ stage of the business cycle would be a good time to invest in firms engaged in natural resource extraction and processing such as minerals and petroleum. A) Peak B) Contraction C) Trough D) Expansion

A) Peak

31. Consider the one-factor APT. The variance of the return on the factor portfolio is .08. The beta of a well-diversified portfolio on the factor is 1.2. The variance of the return on the well-diversified portfolio is approximately __________.0810. A. .1152 b. .1270 c. .1521 d. .1342

A. .1152

68. What is the alpha of a portfolio with a beta of 2 and actual return of 15%? A. 0% b. 13% c. 15% d. 17%

A. 0%

65. This stock has greater systematic risk than a stock with a beta of ____. a. 0.50 b. 2.00 c. 4.00 d. 1.50

A. 0.50

67. ____ percent of the variance is explained by this regression a. 12 b. 35 c. 4.05 d. 80

A. 12

68. The stock is ______ riskier than the typical stock. a. 32% b. 15.44% c. 12% d. 38%

A. 32%

78. A stock has a beta of 1.3. The unsystematic risk of this stock is ____________ the stock market as a whole. A. Higher than b. Lower than c. Equal to d. Indeterminable compared to

A. Higher than

Perfect-timing ability is equivalent to having __________ on the market portfolio.

A. a call option

The exchange of one bond for a bond with similar attributes but more attractively priced is called ______________. A. a substitution swap B. an intermarket spread swap C. rate anticipation swap D. pure yield pickup swap

A. a substitution swap

25. Everything else equal _________ bonds will require a higher promised YTM than ________ bonds. A. catastrophe; standard B. non-callable; callable C. mortgage; debenture D. AAA rated; BAA rated

A. catastrophe; standard

63. Under the pure expectations hypothesis and constant real interest rates for different maturities, an upward sloping yield curve would indicate __________________. A. expected increases in inflation over time B. expected decreases in inflation over time C. the presence of a liquidity premium D. that the equilibrium interest rate in the short term part of the market is lower than the equilibrium interest rate in the long-term part of the market

A. expected increases in inflation over time

As a result of bond convexity an increase in a bond's price when yield to maturity falls is ________ the price decrease resulting from an increase in yield of equal magnitude. A. greater than B. equivalent to C. smaller than D. The answer is indeterminate.

A. greater than

High P/E ratios tend to indicate that a company will _______, ceteris paribus. A. grow quickly B. grow at the same speed as the average company C. grow slowly D. not grow E. none of the above

A. grow quickly

47. Yields on municipal bonds are typically ___________ yields on corporate bonds of similar risk and time to maturity. A. lower than B. slightly higher than C. identical to D. twice as high as

A. lower than

Bond prices are _______ sensitive to changes in yield when the bond is selling at a _______ initial yield to maturity. A. more; lower B. more; higher C. less; lower D. equally; higher or lower

A. more; lower

General Partnership

All the partners share in gains or losses, an all have unlimited liability for all partnership debts, not just some particular share.

Foreign Exchange Futures

Allow customers to enter forward contracts to purchase or sell currency in the future at a currently agreed-upon rate of exchange.

Maintenance Margin

An established value below which a trader's margin may not fall. (Reaching it triggers a margin call)

"out of the money" option

An option that would NOT yield a positive payoff if exercised -relationship between stock price (S) and strike price (K) Call option: S</= K Put option: S>/= K

"in the money" option

An option that would yield a positive payoff if exercised -relationship between stock price (S) and strike price (K) Call options: S>K Put option: S<K

The constant-growth dividend discount model (DDM) can be used only when the ___________. A. growth rate is greater than the required return B. growth rate is less than the required return C. growth rate is less than or equal to the required return D. growth rate is greater than or equal to the required return

Which one of the following is a common term for the market consensus value of the required return on a stock? A. Plowback ratio B. Market capitalization rate C. Dividend payout ratio D. Intrinsic value

A firm is expected to produce earnings next year of $3 per share. It plans to reinvest 25% of its earnings at 20%. If the cost of equity is 11%, what should be the value of the stock? A. $70 B. $37.50 C. $66.67 D. $27.27

B g = .25 × .20 = .05 D1 = $3(1 - .25) = $2.25 P0 = $2.25/(.11 - .05) = $37.50

Westsyde Tool Company is expected to pay a dividend of $2 in the upcoming year. The risk-free rate of return is 6%, and the expected return on the market portfolio is 12%. Analysts expect the price of Westsyde Tool Company shares to be $29 a year from now. The beta of Westsyde Tool Company's stock is 1.2. Using a one-period valuation model, the intrinsic value of Westsyde Tool Company stock today is _________. A. $34.52 B. $27.39 C. $24.29 D. $31.13

B k = .06 + 1.2(.12 - .06) = .132

A trough is __________. A) a transition from an expansion in the business cycle to the start of a contraction B) a transition from a contraction in the business cycle to the start of an expansion C) only something used by farmers to feed pigs and is not a term in investments D) none of the above

B) a transition from a contraction in the business cycle to the start of an expansion

42. A coupon bond which pays interest semi-annually has a par value of $1,000, matures in 8 years, and has a yield to maturity of 6%. If the coupon rate is 7%, the intrinsic value of the bond today will be __________ (to the nearest dollar). A. $1,000 B. $1,063 C. $1,081 D. $1,100

B. $1,063

37. A convertible bond has a par value of $1,000 but its current market price is $950. The current price of the issuing company's stock is $19 and the conversion ratio is 40 shares. The bond's conversion premium is _________. A. $50.00 B. $190.00 C. $200.00 D. $240.00

B. $190.00

Bond Maturity YtM A 1 6% B 2 7.5% C 3 7.99% D 4 8.49% E 5 10.70% 51. One year from now Bond C should sell for ________ (to the nearest dollar). A. $857 B. $842 C. $835 D. $821

B. $842

43. A coupon bond which pays interest annually, has a par value of $1,000, matures in 5 years and has a yield to maturity of 12%. If the coupon rate is 9%, the intrinsic value of the bond today will be approximately _________. A. $856 B. $892 C. $926 D. $1,000

B. $892

80. If the quote for a Treasury bond is listed in the newspaper as 99:08 bid, 99:11 ask, the actual price you can sell this bond given a $10,000 par value is _____________. A. $9,828.12 B. $9,925.00 C. $9,934.37 D. $9,955.43

B. $9,925.00

31. The standard deviation of return on investment A is .10 while the standard deviation of return on investment B is .04. If the correlation coefficient between the returns on A and B is -.50, the covariance of returns on A and B is __________. a. -.0447 b. -.0020 c. .0020 d. .0447

B. -.0020

72. Which of the following correlation coefficients will produce the most diversification benefits? a. -0.6 b. -0.9 c. 0.0 d. 0.4

B. -0.9

7. Consider the CAPM. The risk-free rate is 5% and the expected return on the market is 15%. What is the beta on a stock with an expected return of 12%? a. .5 B. .7 c. 1.2 d. 1.4

B. .7

82. The expected return of portfolio is 8.9% and the risk free rate is 3.5%. If the portfolio standard deviation is 12.0%, what is the reward to variability ratio of the portfolio? a. 0.0 b. 0.45 c. 0.74 d. 1.35

B. 0.45

52. A stock has a correlation with the market of 0.45. The standard deviation of the market is 21% and the standard deviation of the stock is 35%. What is the stock's beta? a. 1.00 b. 0.75 c. 0.60 d. 0.55

B. 0.75

According to James Tobin, the long run value of Tobin's Q should tend toward A. 0. B. 1. C. 2. D. infinity. E. none of the above.

B. 1

73. If the beta of the market index is 1.0 and the standard deviation of the market index increases from 12% to 18%, what is the new beta of the market index? a. 0.8 B. 1.0 c. 1.2 d. 1.5

B. 1.0

57. A 1% decline in yield will have the least effect on the price of the bond with a _________. A. 10-year maturity, selling at 80 B. 10-year maturity, selling at 100 C. 20-year maturity, selling at 80 D. 20-year maturity, selling at 100

B. 10-year maturity, selling at 100

76. What is the expected return on a stock with a beta of 0.8, given a risk free rate of 3.5% and an expected market return of 15.6%? a. 3.8% B. 13.2% c. 15.6% d. 19.1%

B. 13.2%

43. The risk-free rate and the expected market rate of return are 5% and 15% respectively. According to the capital asset pricing model, the expected rate of return on security X with a beta of 1.2 is equal to __________. a. 12% B. 17% c. 18% d. 23%

B. 17%

35. The risk-free rate of return is 10%. The standard deviation of return on the optimal risky portfolio is__________. a. 0% b. 5% c. 7%

B. 5%

40. A coupon bond which pays interest of $60 annually, has a par value of $1,000, matures in 5 years, and is selling today at a $75.25 discount from par value. The current yield on this bond is _________. A. 6.00% B. 6.49% C. 6.73% D. 7.00%

B. 6.49%

67. What is the expected return for a portfolio with a beta of 0.5? a. 5% B. 7.5% c. 12.5% d. 15%

B. 7.5%

The arithmetic average of -11%, 15%, and 20% is ________.

B. 8%

90. A bond was purchased at a premium and is now selling at a discount because of a change in market interest rates. If the bond pays a 4% annual coupon, what is the likely impact on the holding period return in an investor decides to sell now? A. Increased B. Decreased C. Stayed the same D. Can not be determined

B. Decreased

What phrase might be used as a substitute for the Treynor-Black model developed in 1973?

B. Enhanced index approach

________ are analysts who use information concerning current and prospective profitability of a firms to assess the firm's fair market value. A. Credit analysts B. Fundamental analysts C. Systems analysts D. Technical analysts E. Specialists

B. Fundamental analysts

During the 1926-2010 period the Sharpe ratio was greatest for which of the following asset classes?

B. Large U.S. stocks

20. Harry Markowitz is best known for his Nobel prize winning work on ______________. a. Strategies for active securities trading b. Techniques used to identify efficient portfolios of risky assets c. Techniques used to measure the systematic risk of securities d. Techniques used in valuing securities options

B. Techniques used to identify efficient portfolios of risky assets

50. The term excess-return refers to _______________. a. Returns earned illegally by means of insider trading b. The difference between the rate of return earned and the risk-free rate c. The difference between the rate of return earned on a particular security and the rate of return earned on other securities of equivalent risk d. The portion of the return on a security which represents tax liability and therefore cannot be reinvested

B. The difference between the rate of return earned and the risk-free rate

The rate of return on _____ is known at the beginning of the holding period, while the rate of return on ____ is not known until the end of the holding period.

B. Treasury bills; risky assets

If the expected ROE on reinvested earnings is equal to k, the multistage DDM reduces to A. V0 = (Expected Dividend Per Share in Year 1)/k B. V0 = (Expected EPS in Year 1)/k C. V0 = (Treasury Bond Yield in Year 1)/k D. V0 = (Market return in Year 1)/k E. none of the above

B. V0 = (Expected EPS in Year 1)/k

23. Consider the liquidity preference theory of the term structure of interest rates. On average, one would expect investors to require _________. A. a higher yield on short term bonds than long term bonds B. a higher yield on long term bonds than short term bonds C. the same yield on both short term bonds and long term bonds D. the liquidity preference theory cannot be used to make any of the other statements.

B. a higher yield on long term bonds than short term bonds

If an investor is a successful market timer, his distribution of monthly portfolio returns will __________.

B. be skewed to the right

53. The __________ of a bond is computed as the ratio of coupon payments to market price. A. nominal yield B. current yield C. yield to maturity D. yield to call

B. current yield

As compared with equivalent maturity bonds selling at par, deep discount bonds will have ________. A. greater reinvestment risk B. greater price volatility C. less call protection D. shorter average maturity

B. greater price volatility

49. Analysis of bond returns over a multiyear horizon based on forecasts of the bond's yield to maturity and reinvestment rate of coupons is called ______. A. multiyear analysis B. horizon analysis C. maturity analysis D. reinvestment analysis

B. horizon analysis

All other things equal, a bond's duration is _________. A. higher when the coupon rate is higher B. lower when the coupon rate is higher C. the same when the coupon rate is higher D. indeterminate when the coupon rate is high

B. lower when the coupon rate is higher

All other things equal, a bond's duration is _________. A. higher when the yield to maturity is higher B. lower when the yield to maturity is higher C. the same at all yield rates D. indeterminable when the yield to maturity is high

B. lower when the yield to maturity is higher

The Treynor-Black model assumes that security markets are

B. nearly efficient

73. If interest rates are expected to rise, then Joe Hill should ____. A. prefer the Wildwood bond to the Asbury bond B. prefer the Asbury bond to the Wildwood bond C. be indifferent between the Wildwood bond and the Asbury bond D. there is not enough information given to tell

B. prefer the Asbury bond to the Wildwood bond

74. If the volatility of interest rates is expected to increase, the Joe Hill should __. A. prefer the Wildwood bond to the Asbury bond B. prefer the Asbury bond to the Wildwood bond C. be indifferent between the Wildwood bond and the Asbury bond D. there is not enough information given to tell

B. prefer the Asbury bond to the Wildwood bond

6. Bonds issued in the U.S. are __________ and most bonds issued overseas are ___________. A. bearer bonds; registered bonds B. registered bonds; bearer bonds C. straight bonds; convertible bonds D. puttable bonds; callable

B. registered bonds; bearer bonds

FCF and DDM valuations should be ____________ if the assumptions used are consistent. A. very different for all firms B. similar for all firms C. similar only for unlevered firms D. similar only for levered firms E. none of the above

B. similar for all firms

The holding period return on a stock is equal to _________.

B. the capital gain yield over the period plus the dividend yield

Before expiration the time value of an out-of-the money stock option is __________. A. equal to the stock price minus the exercise price B. equal to zero C. negative D. positive

Before expiration, the time value of a call option is equal to A. zero. B. the actual call price minus the intrinsic value of the call. C. the intrinsic value of the call. D. the actual call price plus the intrinsic value of the call. E. none of the above.

Buyers of listed options __________ required to post margins and writers of naked listed options __________ required to post margins. A. are; are not B. are; are C. are not; are D. are not; are not

A firm has current assets that could be sold for their book value of $10 million. The book value of its fixed assets is $60 million, but they could be sold for $95 million today. The firm has total debt at a book value of $40 million, but interest rate changes have increased the value of the debt to a current market value of $50 million. This firm's market-to-book ratio is ________. A. 1.46 B. 1.5 C. 1.83 D. 1.35

Earnings yields tend to _______ when Treasury yields fall. A. remain unchanged B. rise C. fall D. fluctuate wildly

Everything else equal, which variable is negatively related to the intrinsic value of a company? A. D1 B. g C. k D. D0

Generally speaking, the higher a firm's ROA, the _________ the dividend payout ratio and the _________ the firm's growth rate of earnings. A. higher; lower B. lower; lower C. lower; higher D. higher; higher

Rose Hill Trading Company is expected to have EPS in the upcoming year of $6. The expected ROE is 18%. An appropriate required return on the stock is 14%. If the firm has a plowback ratio of 70%, its intrinsic value should be _________. A. $20.93 B. $150 C. $128.57 D. $69.77

__________ the ratio of the number of people classified as unemployed to the total labor force.

C) The unemployment rate is

86. You buy a 10 year $1,000 par 4% annual payment coupon bond priced to yield 6%. You do not sell the bond at year end. If you are in a 15% tax bracket at year end you will owe taxes on this investment equal to _______. A. $9.10 B. $4.25 C. $7.68 D. $5.20

C. $7.68

71. Which of the following correlations coefficients will produce the least diversification benefit? a. -0.6 b. -1.5 c. 0.0 d. 0.8

C. 0.0

55. The market value weighted average beta of firms included in the market index will always be ______________. a. 0 b. Between 0 and 1 c. 1 d. There is no particular rule concerning the average beta of firms included in the market index

C. 1

64. The beta of this stock is _____. a. 0.12 b. 0.35 c. 1.32 d. 4.05

C. 1.32

65. What is the expected return on the market? a. 0% b. 5% C. 10% d. 15%

C. 10%

77. If the price of a $10,000 par Treasury bond is $10,237.50 the quote would be listed in the newspaper as ________. A. 102:10 B. 102:11 C. 102:12 D. 102:13

C. 102:12

81. The risk premium for exposure to aluminum commodity prices is 4% and the firm has a beta relative to aluminum commodity prices of 0.6. The risk premium for exposure to GDP changes is 6% and the firm has a beta relative to GDP of 1.2. If the risk free rate is 4.0%, what is the expected return on this stock? a. 10.0% b. 11.5% C. 13.6% d. 14.0%

C. 13.6%

38. The standard deviation of the returns on the optimal risky portfolio is __________. a. 25.5% b. 22.3% c. 21.4% d. 20.7%

C. 21.4%

63. You find that the annual standard deviation of a stock's returns is equal to 25%. For a 3 year holding period the standard deviation of your total return would equal ________. a. 75% b. 25% c. 43% d. 55%

C. 43%

70. What is the nominal rate of return on the TIPS bond in the first year? A. 5.00% B. 5.15% C. 8.15% D. 9.00%

C. 8.15%

The geometric average of -12%, 20%, and 25% is _________.

C. 9.7%

The CAL provided by combinations of 1-month T-bills and a broad index of common stocks is called the ______.

C. CML

The pioneer of the duration concept was _________. A. Eugene Fama B. John Herzog C. Frederick Macaulay D. Harry Markowitz

C. Frederick Macaulay

Rank the following from highest average historical standard deviation to lowest average historical standard deviation from 1926 to 2010. I. Small stocks II. Long-term bonds III. Large stocks IV. T-bills

C. I, III, II, IV

The duration is independent of the coupon rate only for which one of the following? A. Discount bonds B. Premium bonds C. Perpetuities D. Short term bonds

C. Perpetuities

22. The graph of the expected return beta relationship in the CAPM context is called the __________. a. CML b. CAL C. SML d. Term Structure

C. SML

16. __________ are examples of synthetically created zero coupon bonds. A. COLTS B. OPOSSMS C. STRIPS D. ARMs

C. STRIPS

15. The capital asset pricing model was developed by __________. a. Kenneth French b. Stephen Ross C. William Sharpe d. Eugene Fama

C. William Sharpe

7. Floating rate bonds have a __________ that is adjusted with current market interest rates. A. maturity date B. coupon payment date C. coupon rate D. dividend yield

C. coupon rate

Dividend discount models and P/E ratios are used by __________ to try to find mispriced securities. A. technical analysts B. statistical analysts C. fundamental analysts D. dividend analysts E. psychoanalysts

C. fundamental analysts

2. Sinking funds are commonly viewed as protecting the _______ of the bond. A. issuer B. underwriter C. holder D. dealer

C. holder

12. TIPS offer investors inflation protection by ______________ by the inflation rate each year. A. increasing only the coupon rate B. increasing only the par value C. increasing both the par value and the coupon payment D. increasing the promised yield to maturity

C. increasing both the par value and the coupon payment

18. TIPS are an example of _______________. A. Eurobonds B. convertible bonds C. indexed bonds D. catastrophe bonds

C. indexed bonds

Duration facilitates the comparison of bonds with differing ___________. A. default risk B. conversion ratios C. maturities D. yields to maturity

C. maturities

65. Yields on municipal bonds are generally lower than yields on similar corporate bonds because of differences in _________. A. marketability B. risk C. taxation D. call protection

C. taxation

The complete portfolio refers to the investment in _________.

C. the risk-free asset and the risky portfolio combined

Your return will generally be higher using the __________ if you time your transactions poorly, and your return will generally be higher using the __________ if you time your transactions well.

C. time-weighted return method; dollar-weighted return method

Attributing Performance to Components2

Calculate the return on the 'Bogey' and on the managed portfolio. Explain the difference in return based on component weights or selection. Summarize the performance differences into appropriate categories.

Interest Rate Futures

Contracts currently traded are on Eurodollars, Treasury bills,Treasury notes, and treasury bonds.

In an era of particularly low interest rates, which of the following bonds is most likely to be called?

Coupon bonds selling at a premium

An underpriced stock provides an expected return that is ____________ the required return based on the capital asset pricing model (CAPM). A. greater than or equal to B. less than C. equal to D. greater than

P/E ratios tend to be _______ when inflation is ______. A. higher; higher B. They are unrelated. C. lower; lower D. higher; lower

Interior Airline is expected to pay a dividend of $3 in the upcoming year. Dividends are expected to grow at the rate of 10% per year. The risk-free rate of return is 4%, and the expected return on the market portfolio is 13%. The stock of Interior Airline has a beta of 4. Using the constant-growth DDM, the intrinsic value of the stock is _________. A. $41.67 B. $22.73 C. $27.78 D. $10

D k = .04 + .4(.13 − .04) = .4 V0 = [3/(.4 − .1)] = 10

The required rate of return on equity is the most appropriate discount rate to use when applying a ______ valuation model. A. FCFF B. FCFE C. DDM D. B or C E. P/E

D. B or C

45. The measure of risk used in the Capital Asset Pricing Model is ____________. a. Specific risk b. The standard deviation of returns c. Reinvestment risk d. Beta

D. Beta

It is very hard to statistically verify abnormal fund performance because of all of the following except which one?

D. Even if successful, there is really not much value to be added by active strategies such as market timing.

Which one of the following is largely based on forecasts of macroeconomic factors?

D. Market timing

21. The bonds of Elbow Grease Dishwashing Company have received a rating of "C" by Moody's. The "C" rating indicates the bonds are _________. A. high grade B. intermediate grade C. investment grade D. junk bonds

D. junk bonds

. In creating the P* portfolio, one mixes the original portfolio P and T-bills to match the _________ of the market

D. standard deviation

Morningstar's RAR produce results that are similar but not identical to ________.

D. the Sharpe ratio

The most popular approach to forecasting the overall stock market is to use A. the dividend multiplier. B. the aggregate return on assets. C. the historical ratio of book value to market value. D. the aggregate earnings multiplier. E. Tobin's Q.

D. the aggregate earnings multiplier.

5. A debenture is _________. A. secured by other securities held by the firm B. secured by equipment owned by the firm C. secured by property owned by the firm D. unsecured

D. unsecured

An investor who expects declining interest rates would maximize their capital gain by purchasing a bond that has a ___ coupon and a ___ term to maturity. A. low; long B. high; short C. high; long D. zero; long

D. zero; long

An investor invests 70% of her wealth in a risky asset with an expected rate of return of 15% and a variance of 5%, and she puts 30% in a Treasury bill that pays 5%. Her portfolio's expected rate of return and standard deviation are __________ and __________ respectively.

E(r) = .7(.15) + .3(.05) = .12 standard Dev rp=.70(.05)^.5= 15.7%

You are considering investing $1,000 in a complete portfolio. The complete portfolio is composed of Treasury bills that pay 5% and a risky portfolio, P, constructed with two risky securities, X and Y. The optimal weights of X and Y in P are 60% and 40% respectively. X has an expected rate of return of 14%, and Y has an expected rate of return of 10%. To form a complete portfolio with an expected rate of return of 8%, you should invest approximately __________ in the risky portfolio. This will mean you will also invest approximately __________ and __________ of your complete portfolio in security X and Y,

E(rp) = .6(14) + .4(10) = 12.4% .08 = wrp(.124) + (1 - wrp)(.05) wrp ≈ 40% wx in complete portfolio = .40(.60) = 24% wy in complete portfolio = .40(.40) = 16%

The _________ is the fraction of earnings reinvested in the firm. A. dividend payout ratio B. retention rate C. plowback ratio D. A and C E. B and C

E. B and C

Each listed stock option contract gives the holder the right to buy or sell __________ shares of stock. A. 1 B. 10 C. 100 D. 1,000

Exchange traded stock options expire on the _______________ of the expiration month. A. second Monday B. third Wednesday C. second Thursday D. third Friday

Exercise prices for listed stock options usually occur in increments of ____, and bracket the current stock price. A. $1 B. $5 C. $20 D. $25

5.1911%

Five years ago, Precision Tool set aside $50,000 in case of a financial emergency. Today, that account has increased in value to $64,397. What rate of interest is the firm earning on this money?

Hedge ratios for long call position are __________ and hedge ratios for long put positions are ____________. A. negative; negative B. negative; positive C. positive; negative D. positive; positive

I, III, II, IV

If a stock price increases, the price of a put option on the stock will __________ and the price of a call option on the stock will __________. A. decrease; decrease B. decrease; increase C. increase; decrease D. increase; increase

In 1973, trading of standardized options on a national exchange started on the _________. A. AMEX B. CBOE C. NYSE D. CFTC

Simple

Interest earned only on the original principal amount invested is called _____ interest

Simple Interest

Interest earned only on the original principal amount invested.

Swaps

Multi-period extensions of forward contracts.

Of the variables in the Black-Scholes OPM, the __________ is not directly observable. A. price of the underlying asset B. risk-free rate of interest C. time to expiration D. variance of the underlying asset return

Perfect dynamic hedging requires _______________. A. a smaller capital outlay than static hedging B. less commission expense than static hedging C. daily rebalancing D. continuous rebalancing

You hold a subordinated debenture in a firm. In the event of bankruptcy you will be paid off before which one of the following?

Preferred stock

Basis Risk

Risk attributable to uncertain movements in the spread between a futures price and a spot price.

__________ are examples of synthetically created zero coupon bonds.

STRIPS

Commodity Futures Trading Commission (CFTC)

Sets capital requirements for member firms of the futures exchanges, authorizes trading in new contracts, and oversee maintenance of daily trading records.

Stock Index Futures

Settled by a cash amount equal to the value of the stock index. Allow investors to participate in broad market movements without actually buying or selling large numbers of stocks.

The __________ measures the reward to volatility trade-off by dividing the average portfolio excess return by the standard deviation of returns.

Sharpe measure

You invest $1,000 in a complete portfolio. The complete portfolio is composed of a risky asset with an expected rate of return of 16% and a standard deviation of 20% and a Treasury bill with a rate of return of 6%. The slope of the capital allocation line formed with the risky asset and the risk-free asset is approximately _________.

Slope = (16 - 6)/20 = .50

Strike prices of options are adjusted for ____________ but not for ____________. A. dividends; stock splits B. stock splits; cash dividends C. exercise of warrants; stock splits D. stock price movements; stock dividends

C (103-100= $3-5=-$2...+2...0X100 = $0)

Suppose you purchase one IBM May 100 call contract at $5 and write one IBM May 105 call contract at $2. If, at expiration, the price of a share of IBM stock is $103, your profit would be A. $500. B. $300. C. zero. D. $100. E. none of the above.

False

T/F: Money received over time is equal in value?

The _________ is the difference between the actual call price and the intrinsic value. A. stated value B. strike value C. time value D. binomial value

Futures Price

The agreed-upon price to be paid on a futures contract at maturity.

Cash Settlement

The cash value of the underlying asset (rather than the asset itself) is delivered to satisfy the contract.

The current market price of a share of CAT stock is $76. If a call option on this stock has a strike price of $76, the call A. is out of the money. B. is in the money. C. is at the money. D. A and C. E. B and C.

The current market price of a share of Disney stock is $30. If a call option on this stock has a strike price of $35, the call A. is out of the money. B. is in the money. C. can be exercised profitably. D. A and C. E. B and C.

Marking to Market

The daily settlement of obligations on futures positions.

Basis

The difference between the futures price and the spot price.

Long Position

The futures trader who commits to purchasing the asset.

Time-weighted returns

The geometric average is a time-weighted average. Each period's return has equal weight.

Put-call parity

The no-arbritage relationship between put and call prices for european style options with the same strike price and expiration date.

Open Interest

The number of contracts outstanding.

The option smirk in the Black-Scholes option model indicates that __________. A. implied volatility changes unpredictably as the exercise price rises B. stock prices may fall by a larger amount than the model assumes C. stock prices evolve continuously in today's actively traded markets D. stocks with lower exercise prices are more likely to pay dividends

Intrinsic Value

The payoff that an option holder receives assuming the underlying stock price remains unchanged from its current value.

The potential loss for a writer of a naked call option on a stock is _________. A. equal to the call premium B. larger the lower the stock price C. limited D. unlimited

The price that the buyer of a call OR put option pays for the underlying asset if she executes her option is called the A. strike price B. exercise price C. execution price D. A or C E. A or B

premium

The price that the buyer of a call OR put option pays to acquire the option is called the ________

The price that the writer of a call OR put option receives for the underlying asset if the buyer executes her option is called the A. strike price B. exercise price C. execution price D. A or B E. A or C

The time value of a call option is likely to decline most rapidly ________ days before expiration? A. 10 B. 30 C. 60 D. 90

The value of a call option increases with all of the following except ___________. A. stock price B. time to maturity C. volatility D. dividend yield

Two common ways to measure average portfolio return:

Time-weighted returns Dollar-weighted returns Returns must be adjusted for risk.

To the option holder, put options are worth ______ when the exercise price is higher; call options are worth ______ when the exercise price is higher. A. more; more B. more; less C. less; more D. less; less E. It doesn't matter - they are too risky to be included in a reasonable person's portfolio.

Which one of the following would be considered a risk-free asset in real terms as opposed to nominal?

U.S. T-bill whose return was indexed to inflation

What combination of puts and calls can simulate a long stock investment? A. Long call and short put B. Long call and long put C. Short call and short put D. Short call and long put

What strategy is designed to ensure a value within the bounds of two different stock prices? A. Collar B. Covered Call C. Protective put D. Straddle

E. maximum loss limited to the capital invested

Which one of the following best describes the primary advantage of being a limited partner instead of a general partner? A. tax-free income B. active participation in the firm's activities C. no potential financial loss D. greater control over the business affairs of the partnership E. maximum loss limited to the capital invested

E. shareholders

Which one of the following parties has ultimate control of a corporation? A. chairman of the Board B. board of directors C. chief executive officer D. chief operating office E. shareholders

C (-5-3=-$8 X 100 = -$800)

You buy one Xerox June 60 call contract and one June 60 put contract. The call premium is $5 and the put premium is $3. Your maximum loss from this position could be A. $500. B. $300. C. $800. D. $200. E. none of the above.

$215,390.28

You own a classic automobile that is currently valued at $67,900. If the value increases by 8 percent annually, how much will the automobile be worth 15 years from now?

D (+75 + $3 = $78)

You purchase one JNJ 75 call option for a premium of $3. Ignoring transaction costs, the break-even price of the position is A. $75 B. $72 C. $3 D. $78 E. none of the above

D (-$400 + $7,000 = $6,600 )

You purchase one June 70 PUT contract for a put premium of $4. What is the maximum profit that you could gain from this strategy? A. $7,000 B. $400 C. $7,400 D. $6,600 E. none of the above

C (A horizontal or time spread involves the simultaneous purchase and sale of options with different expiration dates, same exercise price.)

You purchased one AT&T March 50 put and sold one AT&T April 50 put. Your strategy is known as A. a vertical spread. B. a straddle. C. a horizontal spread. D. a collar. E. none of the above.

$13,726.90

You would like to give your daughter $50,000 towards her college education 15 years from now. How much money must you set aside today for this purpose if you can earn 9 percent on your investments?

C (+50-5= $45)

You write one AT&T February 50 put for a premium of $5. Ignoring transactions costs, what is the breakeven price of this position? A. $50 B. $55 C. $45 D. $40 E. none of the above

$6,650.00

Your grandmother invested one lump sum 42 years ago at 3.5 percent interest. Today, she gave you the proceeds of that investment which totaled $28,204.37. How much did your grandmother originally invest?

The geometric average of -12%, 20%, and 25% is _________.

[(1 + −.12)(1 + .20)(1 + .25)]^(1/3) - 1 = 9.70%

Sole Proprietorship

_______ is a form of business that has a single owner

Agency Problem

________ is the conflict of interest between principal and agent (stakeholder and management of a firm)

__________ is the most risky transaction to undertake in the stock index option markets if the stock market is expected to fall substantially after the transaction is completed. A. Writing an uncovered call option B. Writing an uncovered put option C. Buying a call option D. Buying a put option

1. The accounting measure of a firm's equity value generated by applying accounting principles to asset and liability acquisitions is called ________. A. book value B. market value C. liquidation value D. Tobin's q

10. Which one of the following is equal to the ratio of common shareholders' equity to common shares outstanding? A. Book value per share B. Liquidation value per share C. Market value per share D. Tobin's q

11. A firm has current assets that could be sold for their book value of $10 million. The book value of its fixed assets is $60 million, but they could be sold for $95 million today. The firm has total debt at a book value of $40 million, but interest rate changes have increased the value of the debt to a current market value of $50 million. This firm's market-to-book ratio is ________. A. 1.83 B. 1.5 C. 1.35 D. 1.46

2. The price-to-sales ratio is probably most useful for firms in which phase of the industry life cycle? A. Start-up phase B. Consolidation C. Maturity D. Relative decline

6. All else the same, an American style option will be ______ valuable than a ______ style option. A. more; European- B. less; European- C. more; Canadian- D. less; Canadian-

A writer of a call option will want the value of the underlying asset to __________, and a buyer of a put option will want the value of the underlying asset to _________. A. decrease; decrease B. decrease; increase C. increase; decrease D. increase; increase

Strips and straps are variations of __________. A. straddles B. collars C. money spreads D. time spreads

The Option Clearing Corporation is owned by _________. A. the exchanges on which stock options are traded B. the Federal Deposit Insurance Corporation C. the Federal Reserve System D. major U.S. banks

The maximum loss a buyer of a stock call option can suffer is the _________. A. call premium B. stock price C. stock price minus the value of the call D. strike price minus the stock price

The value of a listed put option on a stock is lower when: I. The exercise price is higher. II. The contract approaches maturity. III. The stock decreases in value. IV. A stock split occurs. A. II only B. II and IV only C. I, II, and III only D. I, II, III, and IV

65. A stock is priced at $45 per share. The stock has earnings per share of $3 and a market capitalization rate of 14%. What is the stock's PVGO? A. $23.57 B. $15 C. $19.78 D. $21.34

a P0=E/k=PVGO: 45-3/0.14=23.57

67. A covered call strategy benefits from what environment? A. Falling interest rates B. Price stability C. Price volatility D. Unexpected events

76. What strategy could be considered insurance for an investment in a portfolio of stocks? A. Covered call B. Protective put C. Short put D. Straddle

61. A firm has PVGO of 0 and a market capitalization rate of 12%. What is the firm's P/E ratio? A. 12 B. 8.33 C. 10.25 D. 18.55

b P = E/k + 0; P/E = 1/.12 = 8.33

83. Next year's earnings are estimated to be $6. The company plans to reinvest 33% of its earnings at 12%. If the cost of equity is 8%, what is the present value of growth opportunities? A. $6 B. $24.50 C. $44.44 D. $75

b g = .33 × .12 = .0396 Value with growth = ($6 × .67)/(.08 - .0396) = $99.50 Value without growth = $6/.08 = $75 PVGO = $99.50 - 75 = $24.50

6. P/E ratios tend to be _______ when inflation is ______. A. higher; higher B. lower; lower C. higher; lower D. They are unrelated.

The value of a listed call option on a stock is lower when: I. The exercise price is higher. II. The contract approaches maturity. III. The stock decreases in value. IV. A stock split occurs. A. II, III, and IV only B. I, III, and IV only C. I, II, and III only D. I, II, III, and IV

You write a put option on a stock. The profit at contract maturity of the option position is ___________, where X equals the option's strike price, ST is the stock price at contract expiration, and P0 is the original premium of the put option. A. Max (P0, X - ST - P0) B. Min (-P0, X - ST - P0) C. Min (P0, ST - X + P0) D. Max (0, ST - X - P0)

34. Rose Hill Trading Company is expected to have EPS in the upcoming year of $8. The expected ROE is 18%. An appropriate required return on the stock is 14%. If the firm has a plowback ratio of 70%, its dividend in the upcoming year should be _________. A. $1.12 B. $1.44 C. $2.40 D. $5.60

c D1 = $8 (1 - .7) = $2.40

75. If a firm has a free cash flow equal to $50 million and that cash flow is expected to grow at 3% forever, what is the total firm value given a WACC of 9.5%? A. $679.81 million B. $715.54 million C. $769.23 million D. $803.03 million

c Total value = 50/(.095 - .03) = 769.23

The M-squared measure:

considers the risk-adjusted return when evaluating mutual funds.

89. Which of the following valuation measures is often used to compare firms that have no earnings? A. Price-to-book ratio B. P/E ratio C. Price-to-cash-flow ratio D. Price-to-sales ratio

A __________ bond is a bond where the bondholder has the right to cash in the bond before maturity at a specific price after a specific date.

puttable

period interest rate, expressed as a decimal

The invoice price of a bond is the ______.

stated or flat price in a quote sheet plus accrued interest

number of periods

Yields on municipal bonds are generally lower than yields on similar corporate bonds because of differences in _________.

taxation

American Style

-an option that can be exercised any time before expiration. -more flexible -usually have more value cuz are more flexible -include options on individual stocks

D. foreign currencies

32. Probably the most active forward market is for _____________. A. agricultural commodities B. metals and minerals C. financial futures D. foreign currencies

B. 0

61. At contract maturity the basis should equal ___________. A. 1 B. 0 C. risk-free interest rate D. -1

A company with an expected earnings growth rate which is greater than that of the typical company in the same industry most likely has _________________. A. a dividend yield which is less than that of the typical company B. less risk than the typical company C. less sensitivity to market trends than the typical company D. a dividend yield which is greater than that of the typical company

Stockholders of Dogs R Us Pet Supply expect a 12% rate of return on their stock. Management has consistently been generating an ROE of 15% over the last 5 years but now believes that ROE will be 12% for the next 5 years. Given this, the firm's optimal dividend payout ratio is now ______. A. 100% B. 0% C. between 50% and 100% D. between 0% and 50%

A put option has a strike price of $35 and a stock price of $38. If the call option is trading at $1.25, what is the time value embedded in the option? A. $0.00 B. $0.75 C. $1.25 D. $3.00

In the Treynor-Black model, security analysts __________.

A. analyze a relatively small number of stocks

The M2 measure is a variant of ________________.

A. the Sharpe measure

Forward Contract

An agreement calling for future delivery of an asset at an agreed-upon price.

78. A bond pays a semi-annual coupon and the last coupon was paid 61 days ago. If the annual coupon payment is $75, what is the accrued interest? A. $13.21 B. $12.57 C. $15.44 D. $16.32

B. $12.57

40. The variance of the return on the market portfolio is .0400 and the expected return on the market portfolio is 20%. If the risk-free rate of return is 10%, the market degree of risk aversion, A, is __________. a. 0.5 B. 2.5 c. 3.5 d. 5.0

B. 2.5

22. Bonds rated _____ or better by Standard and Poor's are considered investment grade. A. AA B. BBB C. BB D. CCC

B. BBB

69. Decreasing the number of stocks in a portfolio from 50 to 10 would likely __________________________. a. Increase the systematic risk of the portfolio b. Increase the unsystematic risk of the portfolio c. Increase the return of the portfolio d. Decrease the variation in returns the investor faces in any one year

B. Increase the unsystematic risk of the portfolio

30. Which one of the following statements is correct? A. Invoice price = Flat price - Accrued Interest B. Invoice price = Flat price + Accrued Interest C. Flat price = Invoice price + Accrued Interest D. Invoice price = Settlement price - Accrued Interest

B. Invoice price = Flat price + Accrued Interest

64. In estimating beta many analysts use _________ returns over _______ years. a. Daily; 10 B. Monthly; 5 c. Weekly; 25 d. Monthly; 10

B. Monthly; 5

42. A measure of the riskiness of an asset held in isolation is _____________. a. Beta b. Standard deviation c. Covariance d. Semi-variance

B. Standard deviation

Bonds rated _____ or better by Standard and Poor's are considered investment grade.

BBB

1. An adjusted beta will be ______ than the unadjusted beta. a. Lower b. Higher C. Closer to 1 d. Closer to 0

C. Closer to 1

Rank the following from highest average historical return to lowest average historical return from 1926 to 2010. I. Small stocks II. Long-term bonds III. Large stocks IV. T-bills

C. I, III, II, IV

26. Bonds with coupon rates that fall when the general level of interest rates rise are called _____________. A. asset-backed bonds B. convertible bonds C. inverse floaters D. index bonds

C. inverse floaters

The value of Internet companies is based primarily on _____. A. current profits B. replacement cost C. Tobin's q D. growth opportunities

__________ is the amount of money per common share that could be realized by breaking up the firm, selling its assets, repaying its debt, and distributing the remainder to shareholders. A. Market value per share B. Book value per share C. Tobin's q D. Liquidation value per share

A firm has PVGO of 0 and a market capitalization rate of 12%. What is the firm's P/E ratio? A. 10.25 B. 12 C. 18.55 D. 8.33

D P = E/k + 0; P/E = 1/.12 = 8.33

Gagliardi Way Corporation has an expected ROE of 15%. If it pays out 30% of its earnings as dividends, its dividend growth rate will be _____. incorrect A. 30% B. 15% C. 4.5% D. 10.5%

D b = 1 - .3 = .7 g = b × ROE = .7 × 15% = 10.5%

84. The two factor model on a stock provides a risk premium for exposure to market risk of 12%, a risk premium for exposure to silver commodity prices of 3.5% and a risk free rate of 4.0%. What is the expected return on the stock? a. 11.6% b. 13.0% c. 15.3% D. 19.5%

D. 19.5%

74. According to the CAPM, what is the market risk premium given an expected return on a security of 13.6%, a stock beta of 1.2, and a risk free interest rate of 4.0%? a. 4.0% b. 4.8% c. 6.6% D. 8.0%

D. 8.0%

83. You buy a bond with a $1,000 par today for a price of $875. The bond has 6 years to maturity and makes annual coupon payments of $75 per year. You hold the bond to maturity but you do not reinvest any of your coupons. What was your effective EAR over the holding period? A. 10.40% B. 9.57% C. 7.45% D. 8.78%

D. 8.78%

13. You would typically find all but which one of the following in a bond contract? A. A dividend restriction clause B. A sinking fund clause C. A requirement to subordinate any new debt issued D. A price-earnings ratio

D. A price-earnings ratio

1. Risk that can be eliminated through diversification is called ______ risk. a. Unique b. Firm-specific c. Diversifiable d. All of the above

D. All of the above

Which of the following is not a type of bond swap used in active portfolio management? A. Inter-market spread swap B. Substitution swap C. Rate anticipation swap D. Asset-liability swap

D. Asset-liability swap

47. As additional securities are added to a portfolio, total risk will generally ________ at a _________ rate. a. Rise; decreasing b. Rise; increasing c. Fall; decreasing d. Fall; increasing

D. Fall; increasing

4. When all investors analyze securities in the same way and share the same economic view of the world we say they have _____________________. a. Heterogeneous expectations b. Equal risk aversion c. Asymmetric information D. Homogeneous expectations

D. Homogeneous expectations

62. Which of the following statements is true regarding time diversification? I. The standard deviation of the average annual rate of return over several years will be smaller than the one-year standard deviation. II. For a longer time horizon, uncertainty compounds over a greater number of years. III. Time diversification does not reduce risk. a. I only b. II only c. II and III only d. I, II and III e. None of the statements are correct

D. I, II and III

64. The yield to maturity on a bond is ________. I. above the coupon rate when the bond sells at a discount, and below the coupon rate when the bond sells at a premium II. the discount rate that will set the present value of the payments equal to the bond price III. equal to the true compound return on investment only if all interest payments received are reinvested at the yield to maturity A. I only B. II only C. I and II only D. I, II and III

D. I, II and III

A passive benchmark portfolio is: I. A portfolio in which the asset allocation across broad asset classes is neutral and not determined by forecasts of performance of the different asset classes II. One in which an indexed portfolio is held within each asset class III. Often called the bogey

D. I, II, and III

A mutual fund with a beta of 1.1 has outperformed the S&P 500 over the last 20 years. We know that this mutual fund manager _____.

D. may or may not have outperformed the S&P 500 on a risk-adjusted basis.

Future Value

FV=

If you have an extremely "bullish" outlook on the stock market, you could attempt to maximize your rate of return by ________________. A. purchasing out-of-the-money call options B. purchasing at-the-money bull spreads C. purchasing in-the-money call options D. purchasing at-the-money call options

Market Timing

In its pure form, market timing involves shifting funds between a market-index portfolio and a safe asset

Compound Interest

Interest earned on both the initial principal and the interest reinvested from prior periods.

You have an EAR of 9%. The equivalent APR with continuous compounding is _____.

LN[1 + .09] = 8.62%

Present Value

PV=

Style Analysis

The Black-Scholes hedge ratio for a long call option is equal to __________. A. N(d1) B. N(d2) C. N(d1) - 1 D. N(d2) - 1

The Black-Scholes hedge ratio for a long put option is equal to __________. A. N(d1) B. N(d2) C. N(d1) - 1 D. N(d2) - 1

The Black-Scholes option pricing formula was developed for __________. A. American options B. European options C. Tokyo options D. out-of-the-money options

The maximum loss a buyer of a stock put option can suffer is equal to A. the striking price minus the stock price. B. the stock price minus the value of the call. C. the put premium. D. the stock price. E. none of the above.

The percentage change in the stock call option price divided by the percentage change in the stock price is the __________ of the option. A. delta B. elasticity C. gamma D. theta

Chief Financial Officer(CFO)

The top financial manager within a firm

$58,235.24

Today, you earn a salary of $42,500. What will be your annual salary 10 years from now if you earn annual raises of 3.2 percent?

Trading in "exotic options" takes place A. on the New York Stock Exchange. B. in the over-the-counter market. C. on the American Stock Exchange. D. in the primary marketplace. E. none of the above.

What combination of variables is likely to lead to the lowest time value? A. Short time to expiration and low volatility B. Long time to expiration and high volatility C. Short time to expiration and high volatility D. Long time to expiration and low volatility

C (A vertical or money spread involves the purchase one option and the simultaneous sale of another with a different exercise price and same expiration date.)

You purchased one AT&T March 50 call and sold one AT&T March 55 call. Your strategy is known as A. a long straddle. B. a horizontal spread. C. a vertical spread. D. a short straddle. E. none of the above.

70.What combination of puts and calls can simulate a long stock investment? A. Long call and short put B. Long call and long put C. Short call and short put D. Short call and long put

79. The free cash flow to the firm is reported as $198 million. The interest expense to the firm is $15 million. If the tax rate is 35% and the net debt of the firm increased by $20 million, what is the approximate market value of the firm if the FCFE grows at 3% and the cost of equity is 14%? A. $1,950 billion B. $2,497 billion C. $2,585 billion D. $3,098 billion

a FCFE = 198 - 15(1 - .35) + 20 = 208.25 Value = (208.25 × 1.03)/(.14 - .03) = 1,950

spread

a combo of two or more call options or put options on the same asset with differing exercise prices or times to expiration

44. Generally speaking, as a firm progresses through the industry life cycle, you would expect the PVGO to ________ as a percentage of share price. A. increase B. decrease C. stay the same D. No typical pattern can be expected.

If you are holding a premium bond you must expect a _______ each year until maturity. If you are holding a discount bond you must expect a _______ each year until maturity.

capital loss; capital gain

Limited Partnership

designated limited partners and are liable only for their initial contributions. Not all financial institutions will extend funds to a limited partnership.

You purchased a share of stock for $29. One year later you received $2.25 as dividend and sold the share for $28. Your holding-period return was _________.

(28+2.25-29)/29= 4.31%

Exercise: You have just taken out an installment loan of $1000. Assume that the loan will be repaid in 3 equal annual payments with the first payment due 1 year from today. Work out the amortization schedule of the loan, given 6% as the interest rate charged on the loan balance that is outstanding at each point in time.

- Year 1 = 685.89 - Year 2 = 352.93 - Year 3 = 0

"Moneyness" and intrinsic values

-"in the money" options- positive intrinsic value. -"Out of the money" options- zero intrinsic value -"at the money"- options is a term used for options when the stock price and strike price are about the same.

Question: You are to make monthly deposits of $400 into a retirement account that pays 10.5% interest compounded monthly. If your first deposit will be made one month from now, how large will your retirement account be?

-$1,006,560.40

stion: You have an investment that will pay you 1.27% per month. How much will you have per dollar invested in one year? In two years?

-$1.16 -$1.35

Question: Imprudential Inc, has an unfunded pension liability of $750,000,000 that must be paid in 25 years to assess the value of the firms stock. Financial analysis want to discount want to discount this liability back to present. If the relevant discount rate is 8%, what is the present value of his liability?

-$109,513,428.70

Question: Peter lynch wants to sell you an investment contract that pays equal $12000 amounts at the end of the next 20 years. If you require an effective annual return of 9% on this investment, how much will you pay for the contract today?

-$109,542.55

Question: First City bank pays 7% simple interest on its savings account balances, whereas Second Bank pays 8% interest compounded annually. If you made an $8000 deposit in each bank, how much more money would you earn from your Second City Bank Account at the end of 10 years?

-$2137.21 more

Question: Curly's life insurance company is trying to sell you an investment policy that will pay you and your heirs $35000 per year forever. If the required return on this investment is 6%, how much will you pay for the policy?

-$583,333.33

Question: A first round draft choice quarterback has been signed to a 3 year, $10 million dollar contract. The details provide for an immediate cash bonus of $1 million. The player is to receive $2 million in salary at the of the first year, $3 million the next, and $4 million at the end of the last year. Assuming 10% discount rate, is this package worth $10 million? How much is it worth?

-$8.3028 million

Question: Lycan Inc has 7% compound bonds on the market that have 8 years left to maturity. The bonds make annual payments. If YTM on these bonds is 9%, what is the current bond price?

-$889.30

BB-D grade are known as what?

-(junk) high yield speculative bonds

Question: First National Bank charges 10.1%compounded monthly on its business loans. First United Bank charges 10.3% compounded semiannually. As a potential borrower, which bank would you go to for a new loan?

-10.58% -10.57% -First United is preferred because EAR is lower

Question: Assume the total cost of a college education will be $320000 when your child enters college in 18 years. You presently have $50000 to invest. What annual rate of interest must you earn on your investment to cover the cost of your child's college education?

-10.86%

Question: Although you may know William Shakespeare from his classic literature, what is not well known is that he was an astute inventor. In 1607, when he was 40 and writing King Lear, Shakespeare grew worried about his eventual retirement. Afraid that he would become like King Lear in his retirement and beg hospitality from his children, he purchased grain "tithes" or shares in farm output, for £440. The tithes paid him £60 per year for 31 years. Even though he died at 52, his children received the remaining payments. What interest rate did Board of Avon receive?

-13.36%

Exercise: Last year, ABC Inc's sales were $5,000,000. Sales were $2,500,000 five years earlier (than last year). At what rate had sales been growing?

-14.87%

Question: You're prepared to make monthly payments of $175 beginning at the end of this month, into an account that pays 10% interest compounded monthly. How many payment will you have made when your account balance reaches $50,000?

-146.79 payments

Question: You expect to receive $25000 at graduation in 2 years. You plan on investing it at 9% until you have $160,000. how long will you wait from now?

-23.54 years

Question: If Treasury bills are currently paying 5.7% and inflation rate is 2.9%, what is the approximate real rate of interest? The exact real rate?

-27.2%

Question: In the previous problem, suppose Curly's told you the policy costs $600,000. At what interst rate would this be a fair deal?

-5.83%

Question: You've been offered investments that will double your money in 12 years. What rate of return are you being offered? Check your answer using Rule of 72

-5.95%

You have the following rates of return for a risky portfolio for several recent years. Assume that the stock pays no dividends # Bought YR Beg Yr Price or sold 2008, 50.00 100B 2009 55.00 50B 2010 51.00 75S 2011 54.00 75S What is the dollar weighted return for the period?

-50(100)/(1+IRR)^0 + -55(50)/(1+IRR)^1 + 75(51)/(1+IRR)^2 + 54(75)/(1+IRR)^3 + Irr= .744%

Question: The going rate on student loans is quoted at 9% APR. The terms of the loan call for monthly payments. What is the effective annual rate or EAR on such a student loan?

-9.38%

Exercise: A bank offers to lend you $1000 if you sign a note to pay $1610.50 at the end of five years. What rate of interest would the bank be charging you?

-9.99%

Stock Index Options

-A stock index option is an option on a stock market index. -The most popular stock index options are options on the S&P 100, S&P 500, and Dow Jones Industrial Average. -have cash settlement procedure cuz actual delivery of stocks is unknown.

The lower bound on American Puts

-American put can never sell for less than its intrinsic value (put option price is never less than intrinsic value). EX: S=40, K=50, put price=5 ARBITRAGE STRATEGY: -buy the put option at its P=5 -buy the stock at its price of S=40 -exercise the put option and sell the stock at K=50

Cash settlement procedure

-An option contract settled by a cash payment from the option writer to the option holder when the options is exercised. -if the option expires in the money, the option writer simply pays the option holder the intrinsic value of the option. -The cash settlement procedure is the same for calls and puts.

Question: you want to buy a new sports coupe for $73,800 and the finance office at the dealership has quoted you a 6.2% APR loan for 60 months to buy the car. What will your monthly payments be? What is the effective annual rate on this loan?

-C=$1433.63 -EAR=6.38%

The upper bound for a call option price

-Call option price must be less than the stock price. -Ex:call option selling for $65, stock selling for $60. The Arbitrage: sell the call, and buy the stock. - Worst case, The option is exercised and you pocket $5. -Best case, The stock sells for less than $65 at option expiration, and you keep all of the $65. -Zero cash outlay today, no possibility of loss, and potential for gain

What does interest rate do over time?

-Fluctuates

How call options offer an alternative means:

-For 100 shares, the dollar loss potential with call options is lower. -For 100 shares, the dollar gain potential with call options is lower. -The positive percentage return with call options is higher. -The negative percentage return with call options is lower.

Why put call parity works:

-If two securities have the same risk-less pay-off in the future, they must sell for the same price today. -Notice that the portfolio is always worth $K at expiration. That is, it is riskless. -That is, to prevent arbitrage: today's cost of buying 100 shares and buying one put (net of the proceeds of writing one call), should equal the price of a risk-less security with a face value of $K, and a maturity of T. -Fun fact: If S = K (and if r > 0), then C > P

Option payoffs vs. option profits

-Option investment strategies involve initial and terminal cash flows. *Initial cash flow: option price (often called the option premium). *Terminal cash flow: the value of an option at expiration (often called the option payoff. -The terminal cash flow can be realized by the option holder by exercising the option. -they have option profits (vert.) stock price (hor.) and strike price.

What are two types of annuities?

-Ordinary annuity and annuity due

b) Would you pay $829 for one of these bonds if you thought that the appropriate rate of interest was 12%, that is, if r=12%? Why or why not? Justify your answer with numerical work.

-PV=908.87; You would pay $829 for the bond. Anything less than $908.87 would be appropriate

What is inflation risk?

-Purchasing power risk

3. Combinations

-The trader takes a position in a mixture of call and put options. -Example: Straddle (buy one call and one put with the same strike and expiration).

why options?

-Whether one strategy is preferred over another is a matter for each individual investor to decide. -in some instances investing in the underlying stock will be better. In other instances, investing in the option will be better. -Each investor must weight the risk and return trade-off offered by the strategies.

Exercise: The Apollo Company's Bonds have 4 years remaining to maturity. Interest is paid annually; the bonds have $1000 par value; and the coupon rate is 9%. a) What is the yield to maturity at a current market price of $829?

-YTM= 15%

Exercise: Firm XYZ just paid a $2 dividend on each share of its common stock. The dividends are expected to grow a ta 12% rate for the next 3 years and level off to 5% thereafter. Estimate the firms per share dividend for each of the next 4 years.

-Year 1 = 2.24 Year 2 = 2.51 Year 3 = 2.81 Year 4 = 2.95

What is zero coupon bonds?

-a bond that makes no coupon payments and is priced at a deep discount

What is indenture?

-a contract between the corporation and the lender detailing the terms of debt issue

European Style

-an option that can be exercised only at expiration. -non flexible -include stock index options.

Option Profits Diagrams

-are an extension of payoff diagrams that do take into account the initial cash flow.

Option Basics

-are legal agreements between two parties—the buyer of the option, and the seller of the option. -largest volume of stock option trading: CBOE -also sell at over the counter options markets (philly, boston, NY)

What interest rate is the most important?

-compound interest

An annuity has to have...

-constant cash flow -finite number of repetition -constant time interval

What is the number 1 concern for risk?

-default risk

The upper bound for european put option prices

-european put option price must be less than the strike price. EX: k= $50, and s=$50 Arbitrage- sell the put and invest $50 in the bank (zero cash outlay) *worst case- stock price goes to zero. *best case- stock price is at least $50 at expiration -max. price for a european put option is the PV of the strike price computed at the risk-free rate.

1. Traders add an option position to their stock position

-help traders modify their stock risk. -Example: Covered Calls (Selling a call option on a stock already owned).

AAA, AA, A, BBB is what?

-investment grade

Standardized stock options

-is 100 share contracts -expire sat. following 3rd friday of expiration month.

What are the same terms as interest rate?

-market interest rate -required rate of return -discount rate

The lower bound on option prices

-option prices must be at least zero -american calls can't sell for less than their intrinsic value (never less) EX: S=60, K=50, and call price (C)=5 ARBITRAGE STRATEGY: -buy call price ($5) -exercise the call option and buy the stock at K=$50. -Sell the stock at the current market price, S=$60.

What is a deferred annuity?

-payment doesn't kick in right away

Options clearing corporation (OCC)

-private agency that guarantees that the terms of an option contract will be fulfilled if the option is exercised. -The OCC issues and clears all option contracts trading on U.S. exchanges. -the exchanges and the OCC are all subject to regulation by the Securities and Exchange Commission (SEC). (no credit risk)

Protective call

-strateg of buying call options to protect against RISING prices. -provide a way to "lock-in" the value of a liability or a stream of cash outflows.

2. Spreads

-taking a position on 2 or more options of the same type at the same time. (same= call options or put options only). -Example: Butterfly Spread. *Three option positions using: equally-spaced strikes with the same expiration. *Buy one call option with the lowest strike. *Buy one call option with the highest strike. *Sell two call options with the middle strike

. A down-and-out option _______________. A. provides a payoff if the firm's stock price falls below some specified percentage of what it was at the beginning of the option term B. provides a payoff if the firm's stock price falls below some specified dollar amount during the term of the option C. expires worthless if the firm's stock price falls below some specified percentage of what it was at the beginning of the option term D. expires worthless if the firm's stock price falls below some specified dollar amount during the term of the option

You are considering investing $1,000 in a complete portfolio. The complete portfolio is composed of Treasury bills that pay 5% and a risky portfolio, P, constructed with two risky securities, X and Y. The optimal weights of X and Y in P are 60% and 40%, respectively. X has an expected rate of return of 14%, and Y has an expected rate of return of 10%. To form a complete portfolio with an expected rate of return of 11%, you should invest __________ of your complete portfolio in Treasury bills

.11= Wf(.05)+(1-Wf)*{(.6)(.14)+(.4)(.10 Wf=.19

A treasury bond due in one year has a yield of 6.3% while a treasury bond due in 5 years has a yield of 8.8%. A bond due in 5 years issued by High Country Marketing Corporation has a yield of 9.6% while a bond due in one year issued by High Country Marketing Corporation has a yield of 6.8%. The default risk premiums on the one-year and 5-year bonds issued by High Country Marketing Corp. are respectively __________ and _________.

0.5%, 0.8% Default premium for 1-Year Bond = .068 - .063 = .005 Default premium for 5-Year Bond = .096 - .088 = .008

You buy an 8 year $1000 par value bond today that has a 6% yield and a 6% annual payment coupon. In one year promised yields have risen to 7%. Your one year holding period return was ___.

0.61%

Stock option ticker symbol

1. 3 letter symbol for the underlying stock. 2. 2 letter symbol specifying the option type. -expiration month -strike price

C. financial

1. Recently most of the growth in the number of contracts traded on the Chicago Board of Trade has come in the _______ contracts. A. metals B. agriculture C. financial D. commodity

Options on common stock must stipulate at least the following 6 contract terms:

1. The identity of the underlying stock (IBM) 2. The strike price, or exercise price (k) 3. The option contract size (100 shares) 4. The option expiration date, or option maturity (about 90 days) 5. The option exercise style (American or European). 6. The delivery, or settlement, procedure.

3 types of option trading strategies

1. Traders add an option position to their stock position 2. Spreads 3. Combinations

Arbitrage is a trading opportunity that:

1. requires now net investment on your part 2. No possibility of a loss 3. No cash outlay -In finance, arbitrage is not allowed to persist. *"Absence of Arbitrage" = "No Free Lunch" *The "Absence of Arbitrage" rule is often used in finance to calculate option prices. if arbitrage happened = (Easy money for everybody)

A 1% decline in yield will have the least effect on the price of the bond with a _________

10-year maturity, selling at 100

B. cross-hedge

10. An investor who is hedging a corporate bond portfolio using a T-bond futures contract is said to have a(n) _______. A. arbitrage B. cross-hedge C. over-hedge D. spread-hedge

A. all outstanding silver futures contracts

11. The open interest on silver futures at a particular time is the number of __________. A. all outstanding silver futures contracts B. long and short silver futures positions counted separately on a particular trading day C. silver futures contracts traded during the day D. silver futures contracts traded the previous day

B. pay; receive

12. An investor who goes short in a futures contract will _____ any increase in value of the underlying asset and will _____ any decrease in value in the underlying asset. A. pay; pay B. pay; receive C. receive; pay D. receive; receive

You invest $10,000 in a complete portfolio. The complete portfolio is composed of a risky asset with an expected rate of return of 15% and a standard deviation of 21% and a Treasury bill with a rate of return of 5%. How much money should be invested in the risky asset to form a portfolio with an expected return of 11%?

15y + 5(1 - y) = 11; y = 60%; .60(10,000) = $6,000

B. Spot price at maturity - Original futures price

18. Which of the following provides the profit to a long position at contract maturity? A. Original futures price - Spot price at maturity B. Spot price at maturity - Original futures price C. Zero D. Basis

C. a spread position

19. You take a long position in a futures contract of one maturity and a short position in a contract of a different maturity, both on the same commodity. This is called __________. A. a cross hedge B. a reversing trade C. a spread position D. a straddle

B. increase substantially

2. A person with a long position in a commodity futures contract wants the price of the commodity to ______. A. decrease substantially B. increase substantially C. remain unchanged D. increase or decrease substantially

C. both buyers and sellers of futures contracts

22. Margin must be posted by ________. A. buyers of futures contracts only B. sellers of futures contracts only C. both buyers and sellers of futures contracts D. speculators only

B. marking to market

23. The daily settlement of obligations on futures positions is called _____________. A. a margin call B. marking to market C. a variation margin check D. initial margin requirement

A. Original futures price - Spot price at maturity

24. Which of the following provides the profit to a short position at contract maturity? A. Original futures price - Spot price at maturity B. Spot price at maturity - Original futures price C. Zero D. Basis

D. The maintenance margin is the value of the margin account below which the holder of a futures contract receives a margin call

27. Which one of the following is a true statement? A. A margin deposit can only be met by cash B. All futures contracts require the same margin deposit C. The maintenance margin is the amount of money you post with your broker when you buy or sell a futures contract D. The maintenance margin is the value of the margin account below which the holder of a futures contract receives a margin call

B. the convergence property

28. At maturity of a future contract, the spot price and futures price must be approximately the same because of __________. A. marking to market B. the convergence property C. the open interest D. the triple witching hour

B. is an agreement to buy or sell a specified amount of an asset at a predetermined price on the expiration date of the contract

29. A futures contract __________. A. is a contract to be signed in the future by the buyer and the seller of a commodity B. is an agreement to buy or sell a specified amount of an asset at a predetermined price on the expiration date of the contract C. is an agreement to buy or sell a specified amount of an asset at whatever the spot price happens to be on the expiration date of the contract D. gives the buyer the right, but not the obligation, to buy an asset some time in the future

C. long futures contract

3. If an asset price declines, the investor with a _______ is exposed to the largest potential loss. A. long call option B. long put option C. long futures contract D. short futures contract

A. Marking to market

31. Which one of the following refers to the daily settlement of obligations on future positions? A. Marking to market B. The convergence property C. The open interest D. The triple witching hour

A. a cash settled contract

33. The CME weather futures contract is an example of ______________. A. a cash settled contract B. an agricultural contract C. a financial future D. a commodity future

C. currently trading on OneChicago, a joint venture of several exchanges

34. Single stock futures, as opposed to stock index futures, are _______________. A. not yet being offered by any exchanges B. offered overseas but not in the U.S. C. currently trading on OneChicago, a joint venture of several exchanges D. scheduled to begin trading in 2010 at various exchanges

B. a reversing trade

35. You are currently long in a futures contract. You then instruct a broker to enter the short side of a futures contract to close your position. This is called __________. A. a cross hedge B. a reversing trade C. a speculation D. marking to market

A. cross hedging

36. A company which mines bauxite decides to short aluminum futures. This is an example of __________ to limit its risk. A. cross hedging B. long hedging C. spreading D. speculating

B. short hedging

38. A hog farmer decides to sell hog futures. This is an example of __________ to limit its risk. A. cross hedging B. short hedging C. spreading D. speculating

A. that the market believed that Obama had 81% chance of winning

39. On February 25, 2008 you could have purchased a futures contract from Intrade that would pay you $1 if Barack Obama wins the 2008 Democratic Party nomination. At a price of $0.81, the contract for Obama carried the highest price of any Democratic candidate. This tells you _______________. A. that the market believed that Obama had 81% chance of winning B. that the market believed that Obama had the least chance of winning C. nothing about the markets' belief concerning the odds of Obama winning D. that the market believed Obama's chances of winning were about 19%

D. zero

4. The clearing corporation has a net position equal to ______. A. the open interest B. the open interest times two C. the open interest divided by two D. zero

If the coupon rate on a bond is 4.50% and the bond is selling at a premium, which of the following is the most likely yield to maturity on the bond?

4.30% Response Feedback: A bond sells at premium when coupon rate > YTM.

C. buy treasury bond futures

40. An investor would want to __________ to exploit an expected fall in interest rates. A. sell S&P 500 index futures B. sell treasury bond futures C. buy treasury bond futures D. buy wheat futures

C. are not; are

41. Forward contracts _________ traded on an organized exchange and futures contracts __________ traded on an organized exchange. A. are; are B. are; are not C. are not; are D. are not; are not

C. sell S&P 500 index futures and buy all the stocks in the S&P 500

42. If the S&P 500 index futures contract is overpriced relative to the spot S&P 500 index, you should __________. A. buy all the stocks in the S&P 500 and write put options on the S&P 500 index B. sell all the stocks in the S&P 500 and buy call options on S&P 500 index C. sell S&P 500 index futures and buy all the stocks in the S&P 500 D. sell short all the stocks in the S&P 500 and buy S&P 500 index futures

C. price discrepancies would open arbitrage opportunities for investors who spot them

46. Futures contracts are said to exhibit the property of convergence because _______________. A. the profits from long positions and short positions must ultimately be equal B. the profits from long positions and short positions must ultimately net to zero C. price discrepancies would open arbitrage opportunities for investors who spot them D. the futures price and spot price of any asset must ultimately net to zero

D. Eurex

48. The world's largest futures and options exchange is the _______. A. CBOE B. CBOT C. CME D. Eurex

B. arbitrage opportunities for investors who spot them

49. Violation of the spot-futures parity relationship results in _______________. A. fines and other penalties imposed by the SEC B. arbitrage opportunities for investors who spot them C. suspension of delivery privileges D. suspension of trading

C. FT - F0

51. An investor establishes a long position in a futures contract now (time 0) and holds the position until maturity (Time T). The sum of all daily settlements will be __________. A. F0 - FT B. F0 - S0 C. FT - F0 D. FT - S0

B. 1% to 3%

53. Approximately __________ of futures contracts result in actual delivery. A. 0% B. 1% to 3% C. 5% to 15% D. 60% to 80%

C. profit; be hurt

54. A long hedger will __________ from an increase in the basis a short hedger will __________. A. be hurt; be hurt B. be hurt; profit C. profit; be hurt D. profit; profit

C. must be paid regardless of whether the position has been closed out or not

55. At year end, taxes on a futures position _______________. A. must be paid if the position has been closed out B. must be paid if the position has not been closed out C. must be paid regardless of whether the position has been closed out or not D. need not be paid if the position supports a hedge

D. I, II and III

56. A speculator will often prefer to buy a futures contract rather than the underlying asset because ____________. I. gains in futures contracts can be larger due to leverage II. transaction costs in futures are typically lower than in spot markets III. futures markets are often more liquid than the markets of the underlying commodities A. I and II only B. II and III only C. I and III only D. I, II and III

C. Forward contract

6. Which one of the following contracts requires no cash to change hands when initiated? A. Listed put option B. Short futures contract C. Forward contract D. Listed call option

B. sell stock index futures

60. If you expect a stock market downturn, one potential defensive strategy would be to __________. A. buy stock index futures B. sell stock index futures C. buy stock index options D. sell foreign exchange futures

B. sell the September contract and buy the June contract

62. You believe that the spread between the September T-bond contract and the June T-bond futures contract is too large and will soon correct. This market exhibits positive cost of carry for all contracts. To take advantage of this you should ______________. A. buy the September contract and sell the June contract B. sell the September contract and buy the June contract C. sell the September contract and sell the June contract D. buy the September contract and buy the June contract

A. market timers; lower transaction cost

7. Synthetic stock positions are commonly used by ______ because of their ______. A. market timers; lower transaction cost B. banks; lower risk C. wealthy investors; tax treatment D. money market funds; limited exposure

You purchased a 5-year annual interest coupon bond one year ago. Its coupon interest rate was 6% and its par value was $1,000. At the time you purchased the bond, the yield to maturity was 4%. If you sold the bond after receiving the first interest payment and the bond's yield to maturity had changed to 3%, your annual total rate of return on holding the bond for that year would have been approximately _________.

7.6%

D. $200 trillion

71. The volume of interest rate swaps increased from almost zero in 1980 to over __________ today. A. $20 million B. $200 million C. $200 billion D. $200 trillion

A. the futures price will be higher as contract maturity increases

72. If rf is greater than d then we know that _______________. A. the futures price will be higher as contract maturity increases B. F0 < S0 C. FT > ST D. arbitrage profits are possible

D. net interest payments based on notional principal, but no exchange of principal

74. Interest rate swaps involve the exchange of ________________. A. fixed rate bonds for floating rate bonds B. floating rate bonds for fixed rate bonds C. net interest payments and an actual principal swap D. net interest payments based on notional principal, but no exchange of principal

A. Nasdaq Composite; Russell 2000

77. The ________ and the _______ have the lowest correlations with the large-cap indexes. A. Nasdaq Composite; Russell 2000 B. NYSE; DJIA C. S&P500; DJIA D. Russell 2000; S&P500

D. margin

78. The use of leverage is practiced in the futures markets due to the existence of _________. A. banks B. brokers C. clearinghouse D. margin

D. triple-witching hour

8. The time on Friday with simultaneous expirations of S&P index futures, S&P index options and options on some individual stocks is commonly called the _______. A. mad minute B. double-witching hour C. happy hour D. triple-witching hour

A. Convergence

81. The price of a corn futures contract is $2.65 per bushel when the contract is issued and the commodity spot price is $2.55. When the contract expires, the two prices are identical. What principle is represented by this price behavior? A. Convergence B. Margin C. Basis D. Volatility

B. sell T-bond futures

82. A corporation will be issuing bonds in 6 months and the Treasurer is concerned about unfavorable interest rate moves in the interim. The best way for her to hedge the risk is to _________________. A. buy T-bond futures B. sell T-bond futures C. buy stock index futures D. sell stock index futures

A. sell T-bond futures

85. A bank has made long term fixed rate mortgages and has financed them with short term deposits. To hedge out the bank's interest rate risk they could ________. A. sell T-bond futures B. buy T-bond futures C. buy stock index futures D. sell stock index futures

D. sell stock index futures and sell T-bond futures

86. A market timer now believes that the economy will soften over the rest of the year as the housing market slump continues and he also believes that foreign investors will stop buying U.S. fixed income securities in such large quantities as they have in the past. One way the timer could take advantage of this forecast is to ________________. A. buy T-bond futures and sell stock index futures B. sell T-bond futures and but stock index futures C. buy stock index futures and buy T-bond futures D. sell stock index futures and sell T-bond futures

C. II and III only

87. The Student Loan Marketing Association (SLMA) has short term student loans funded by long term debt. To hedge out this interest rate risk SLMA could ______________. I. engage in a swap to pay fixed and receive variable interest payments II. engage in a swap to pay variable and receive fixed interest payments III. buy T-bond futures IV. sell T-bond futures A. I and II only B. I and IV only C. II and III only D. II and IV only

B. futures contracts are tailored to the specific needs of the investor

9. Futures contracts have many advantages over forward contracts except that _________. A. futures positions are easier to trade B. futures contracts are tailored to the specific needs of the investor C. futures trading preserves the anonymity of the participants D. counterparty credit risk is not a concern on futures

A coupon bond which pays interest of 4% annually, has a par value of $1,000, matures in 5 years, and is selling today at $785. The actual yield to maturity on this bond is _________

9.6% Response feedback: 785= 40((1-(1+r)^(-5))/r))+ (1000/(1+r)^5)

A firm cuts its dividend payout ratio. As a result, you know that the firm's _______. A. earnings retention ratio will increase B. stock price will fall C. return on assets will increase D. earnings growth rate will fall

A firm that has an ROE of 12% is considering cutting its dividend payout. The stockholders of the firm desire a dividend yield of 4% and a capital gain yield of 9%. Given this information, which of the following statements is (are) correct? I. All else equal, the firm's growth rate will accelerate after the payout change. II. All else equal, the firm's stock price will go up after the payout change. III. All else equal, the firm's P/E ratio will increase after the payout change. A. I only B. I and II only C. I, II, and III D. II and III only

A preferred share of Coquihalla Corporation will pay a dividend of $8 in the upcoming year and every year thereafter; that is, dividends are not expected to grow. You require a return of 7% on this stock. Using the constant-growth DDM to calculate the intrinsic value, a preferred share of Coquihalla Corporation is worth _________. A. $114.29 B. $13.50 C. $91 D. $45.50

Firm A is high-risk, and Firm B is low-risk. Everything else equal, which firm would you expect to have a higher P/E ratio? A. Both would have the same P/E if they were in the same industry. B. There is not necessarily any linkage between risk and P/E ratios. C. Firm A D. Firm B

Which one of the following statements about market and book value is correct? A. Most firms have a market-to-book ratio above 1, but not all. B. All firms sell at a market-to-book ratio above 1. C. All firms sell at a market-to-book ratio below 1. D. All firms sell at a market-to-book ratio greater than or equal to 1.

A firm has a stock price of $54.75 per share. The firm's earnings are $75 million, and the firm has 20 million shares outstanding. The firm has an ROE of 15% and a plowback of 65%. What is the firm's PEG ratio? A. 1.5 B. 1 C. 1.25 D. 1.1

A EPS = $75,000,000/20,000,000 = $3.75 P/E = $54.75/$3.75 = 14.6 g = .65 × 15% = .0975 = 9.75% PEG = 14.6/9.75 = 1.5

The free cash flow to the firm is reported as $205 million. The interest expense to the firm is $22 million. If the tax rate is 35% and the net debt of the firm increased by $25 million, what is the approximate market value of the firm if the FCFE grows at 2% and the cost of equity is 11%? A. $2,445 billion B. $2,565 billion C. $2,168 billion D. $2,998 billion

A FCFE = 205 - 22(1 - .35) + 25 = 215.70 Value = (215.7×1.02)/(.11 - .02) = 2,445

The free cash flow to the firm is reported as $275 million. The interest expense to the firm is $60 million. If the tax rate is 35% and the net debt of the firm increased by $33 million, what is the free cash flow to the equity holders of the firm? A. $269 million B. $327 million C. $296 million D. $305 million

A FCFE = 275 - 60(1 - .35) + 33 = 269

The EBIT of a firm is $300, the tax rate is 35%, the depreciation is $20, capital expenditures are $60, and the increase in net working capital is $30. What is the free cash flow to the firm? A. $125 B. $185 C. $305 D. $85

A FCFF = 300(1 - .35) + 20 - 60 - 30 = $125 million

The free cash flow to the firm is $300 million in perpetuity, the cost of equity equals 14%, and the WACC is 10%. If the market value of the debt is $1 billion, what is the value of the equity using the free cash flow valuation approach? A. $2 billion B. $3 billion C. $1 billion D. $4 billion

A Total value = 300/.10 = $3 billion Equity value = $3 billion - 1 billion = $2 billion

Flanders, Inc., has expected earnings of $4 per share for next year. The firm's ROE is 8%, and its earnings retention ratio is 40%. If the firm's market capitalization rate is 15%, what is the present value of its growth opportunities? A. -$6.33 B. $26.67 C. $0 D. $20.34

A Value with no growth = $4/.15 = $26.67 Growth rate = .4 × 8% = 3.2% Value with growth = $4 × (1 - .4)/(.15 - .032) = $20.34 PVGO = $20.34 - 26.67 = -$6.33

Sanders, Inc., paid a $4 dividend per share last year and is expected to continue to pay out 60% of its earnings as dividends for the foreseeable future. If the firm is expected to generate a 13% return on equity in the future, and if you require a 15% return on the stock, the value of the stock is _________. A. $42.94 B. $26.67 C. $35.19 D. $59.89

A g = (1 - .6) × 13% = 5.2% D1 = $4 × (1.052) = $4.208 Intrinsic value = $4.208/(.15 - .052) = $42.94

Todd Mountain Development Corporation is expected to pay a dividend of $3 in the upcoming year. Dividends are expected to grow at the rate of 8% per year. The risk-free rate of return is 5%, and the expected return on the market portfolio is 17%. The stock of Todd Mountain Development Corporation has a beta of .75. Using the constant-growth DDM, the intrinsic value of the stock is _________. correct A. 50 B. 4 C. 17.65 D. 37.50

A k = .05 + .75(.17 − .05) = .14 V0 = [3/(.14 − .08)] = 50

When Google's share price reached $475 per share, Google had a P/E ratio of about 68 and an estimated market capitalization rate of 11.5%. Google pays no dividends. Approximately what percentage of Google's stock price was represented by PVGO? A. 87% B. 64% C. 92% D. 77%

A EPS = $475/68 = $6.985 PVGO = $475 - ($6.985/.115) = $414.26 $414.26/$475 = 87.21%

A common stock pays an annual dividend per share of $1.80. The risk-free rate is 5%, and the risk premium for this stock is 4%. If the annual dividend is expected to remain at $1.80 per share, what is the value of the stock? A. $20 B. $40 C. $17.78 D. None of these options

A P = $1.80/.09 = $20

A "bet" option is also called a ____ option. A. barrier B. lookback C. digital D. foreign exchange

A European call option gives the buyer the right to _________. A. buy the underlying asset at the exercise price on or before the expiration date B. buy the underlying asset at the exercise price only at the expiration date C. sell the underlying asset at the exercise price on or before the expiration date D. sell the underlying asset at the exercise price only at the expiration date

A European put option allows the holder to A. buy the underlying asset at the striking price on or before the expiration date. B. sell the underlying asset at the striking price on or before the expiration date. C. potentially benefit from a stock price decrease with less risk than short selling the stock. D. sell the underlying asset at the striking price on the expiration date. E. C and D.

A European put option gives its holder the right to _________. A. buy the underlying asset at the exercise price on or before the expiration date B. buy the underlying asset at the exercise price only at the expiration date C. sell the underlying asset at the exercise price on or before the expiration date D. sell the underlying asset at the exercise price only at the expiration date

C. Limited Partner

A business partner whose potential financial loss in the partnership will not exceed his or her investment in that partnership is called a: A. General Partner B. Sole Proprietor C. Limited Partner D. Corporate Shareholder E. Zero Partner

A call option on Brocklehurst Corp. has an exercise price of $30. The current stock price of Brocklehurst Corp. is $32. The call option is _________. A. at the money B. in the money C. out of the money D. knocked in

A call option with several months until expiration has a strike price of $55 when the stock price is $50. The option has _____ intrinsic value and _____ time value. A. negative; positive B. positive; negative C. zero; zero D. zero; positive

A callable bond should be priced the same as A. a convertible bond. B. a straight bond plus a put option. C. a straight bond plus a call option. D. a straight bond plus warrants. E. a straight bond.

A collar with a net outlay of approximately zero is an options strategy that A. combines a put and a call to lock in a price range for a security. B. uses the gains from sale of a call to purchase a put. C. uses the gains from sale of a put to purchase a call. D. both A and B. E. both A and C.

straddle

A combo of a call and a put, each with the same exercise price and expiration date

Performance Attribution

A common attribution system decomposes performance into three components: Allocation choices across broad asset classes. Industry or sector choice within each market. Security choice within each sector.

A convertible bond is deep in the money. This means the bond price will closely track the __________. A. straight debt value of the bond B. conversion value of the bond C. straight debt value of the bond minus the conversion value D. straight debt value of the bond plus the conversion value

A covered call position is A. the simultaneous purchase of the call and the underlying asset. B. the purchase of a share of stock with a simultaneous sale of a put on that stock. C. the short sale of a share of stock with a simultaneous sale of a call on that stock. D. the purchase of a share of stock with a simultaneous sale of a call on that stock. E. the simultaneous purchase of a call and sale of a put on the same stock.

A covered call strategy benefits from what environment? A. Falling interest rates B. Price stability C. Price volatility D. Unexpected events

A futures call option provides its holder with the right to ___________. A. purchase a particular stock at some time in the future at a specified price B. purchase a futures contract for the delivery of options on a particular stock C. purchase a futures contract at a specified price for a specified period of time D. deliver a futures contract and receive a specified price at a specific date in the future

Consider a Treasury bill with a rate of return of 5% and the following risky securities: Security A: E(r) = .15; variance = .0400 Security B: E(r) = .10; variance = .0225 Security C: E(r) = .12; variance = .1000 Security D: E(r) = .13; variance = .0625

A has the steepest slope, found as: Slope = (.15 − .05)/(.04).5 = .5000

A hedge ratio of 0.70 implies that a hedged portfolio should consist of ________. A. long .70 calls for each short stock B. long .70 shares for each long call C. long .70 shares for each short call D. short .70 calls for each long stock

A high dividend payout will ______ the value of a call option and ______ the value of a put option. A. increase; decrease B. increase; increase C. decrease; increase D. decrease; decrease

A higher dividend payout policy will have a __________ impact on the value of a put and a __________ impact on the value of a call. A. negative; negative B. negative; positive C. positive; negative D. positive; positive

A lookback option provides its holder with _______________. A. a payoff determined by either the maximum or minimum price of the underlying stock during the life of the option B. a payoff determined by the difference between the maximum and minimum price of the underlying stock during the life of the option C. a payoff if the firm's stock price falls below some specified dollar amount during the term of the option D. a payoff based on the average price of the underlying stock over the life of the option

You would typically find all but which one of the following in a bond contract?

A price-earnings ratio

A protective put strategy is A. a long put plus a long position in the underlying asset. B. a long put plus a long call on the same underlying asset. C. a long call plus a short put on the same underlying asset. D. a long put plus a short call on the same underlying asset. E. none of the above.

A put option on Snapple Beverage has an exercise price of $30. The current stock price of Snapple Beverage is $24.25. The put option is _________. A. at the money B. in the money C. out of the money D. knocked out

A put option with several months until expiration has a strike price of $55 when the stock price is $50. The option has _____ intrinsic value and _____ time value. A. negative; positive B. positive; positive C. zero; zero D. zero; positive

Which of the following bonds would most likely sell at the lowest yield?

A puttable mortgage bond

A quanto provides its holder with ______________. A. the right to participate in the payoffs from a portfolio of gambling casino stocks B. the right to exchange a fixed amount of a foreign currency for dollars at a specified exchange rate C. the right to participate in the investment performance of a foreign security D. the right to exchange the payoff from a foreign investment for dollars at a fixed exchange rate

A writer of a call option will want the value of the underlying asset to __________ and a buyer of a put option will want the value of the underlying asset to _________. A. decrease, decrease B. decrease, increase C. increase, decrease D. increase, increase

A big increase in government spending is an example of __________. A) a demand shock B) a supply shock C) an unsurprising shock D) none of the above

A) a demand shock

Which of the following influence the cost of capital? A. All of these choices are correct. B. General economic conditions. C. Marketability of securities. D. Amount of financing the firm requires.

A. All of these choices are correct.

81. A bond has a 5% coupon rate. The coupon is paid semi-annually and the last coupon was paid 35 days ago. If the bond has a par value of $1,000, what is the accrued interest? A. $4.81 B. $14.24 C. $25.00 D. $50.00

A. $4.81

46. A zero-coupon bond has a yield to maturity of 5% and a par value of $1,000. If the bond matures in 16 years, it should sell for a price of __________ today. A. $458.00 B. $641.00 C. $789.00 D. $1,100.00

A. $458.00

66. Assuming semiannual compounding, a 20-year zero coupon bond with a par value of $1,000 and a required return of 12% would be priced at _________. A. $97 B. $104 C. $364 D. $732

A. $97

10. Asset A has an expected return of 20% and a standard deviation of 25%. The risk free rate is 10%. What is the reward-to-variability ratio? a. .40 b. .50 c. .75 d. .80

A. .40

An investor can design a risky portfolio based on two stocks, A and B. Stock A has an expected return of 18% and a standard deviation of return of 20%. Stock B has an expected return of 14% and a standard deviation of return of 5%. The correlation coefficient between the returns of A and B is 0.50. The risk-free rate of return is 10%. 33. The proportion of the optimal risky portfolio that should be invested in stock A is __________. a. 0% b. 40% c. 60% d. 100%

A. 0%

83. The risk premium for exposure to exchange rates is 5% and the firm has a beta relative to exchanges rates of 0.4. The risk premium for exposure to the consumer price index is -6% and the firm has a beta relative to the CPI of 0.8. If the risk free rate is 3.0%, what is the expected return on this stock? A. 0.2% b. 1.5% c. 3.6% d. 4.0%

A. 0.2%

28. A portfolio is composed of two stocks, A and B. Stock A has a standard deviation of return of 24% while stock B has a standard deviation of return of 18%. Stock A comprises 60% of the portfolio while stock B comprises 40% of the portfolio. If the variance of return on the portfolio is .0380, the correlation coefficient between the returns on A and B is __________. a. 0.583 b. 0.225 c. 0.327 d. 0.128

A. 0.583

84. You buy an 8 year $1000 par value bond today that has a 6% yield and a 6% annual payment coupon. In one year promised yields have risen to 7%. Your one year holding period return was ___. A. 0.61% B. -5.39% C. 1.28% D. -3.25%

A. 0.61%

23. Research has revealed that regardless of what the current estimate of a firm's beta is, it will tend to move closer to ______ over time. A. 1 b. 0 c. -1 d. 0.5

A. 1

72. You consider buying a share of stock at a price of $25. The stock is expected to pay a dividend of $1.50 next year and your advisory service tells you that you can expect to sell the stock in one year for $28. The stock's beta is 1.1, Rf is 6% and E[rm] = 16%. What is the stock's abnormal return? A. 1% b. 2% c. -1% d. -2%

A. 1%

21. You have a $50,000 portfolio consisting of Intel, GE and Con Edison. You put $20,000 in Intel, $12,000 in GE and the rest in Con Edison. Intel, GE and Con Edison have betas of 1.3, 1.0 and 0.8 respectively. What is your portfolio beta? A. 1.048 b. 1.033 c. 1.000 d. 1.037

A. 1.048

82. The price on a treasury bond is 104:21 with a yield to maturity of 3.45%. The price on a comparable maturity corporate bond is 103:11 with a yield to maturity of 4.59%. What is the approximate percentage value of the credit risk of the corporate bond? A. 1.14% B. 3.45% C. 4.59% D. 8.04%

A. 1.14%

An investor can design a risky portfolio based on two stocks, A and B. Stock A has an expected return of 18% and a standard deviation of return of 20%. Stock B has an expected return of 14% and a standard deviation of return of 5%. The correlation coefficient between the returns of A and B is 0.50. The risk-free rate of return is 10%. 34. The expected return on the optimal risky portfolio is __________. a. 14.0% b. 15.6% c. 16.4% d. 18.0%

A. 14.0%

59. Consider the following $1,000 par value zero-coupon bonds: Bond Maturity YtM A 1 6% B 2 7% C 3 7.99% D 4 9.41% E 5 10.70% The expected one-year interest rate four years from now should be _________. A. 16.00% B. 18.00% C. 20.00% D. 22.00%

A. 16.00%

46. Stock A has a beta of 1.2 and Stock B has a beta of 1. The returns of Stock A are ______ sensitive to changes in the market as the returns of Stock B. a. 20% more b. Slightly more c. 20% less d. Slightly less

A. 20% more

79. Which of the following is a correct expression concerning the formula for the standard deviation of returns of a two asset portfolio where the correlation coefficient is between +1 and -1? a. 2rp < (W1212 + W1212) b. 2rp = (W1212 + W1212) c. 2rp = (W1212 - W1212) d. 2rp > (W1212 + W1212)

A. 2rp < (W1212 + W1212)

89. The price of a bond at the beginning of a period is $980.00 and $975.00 at the end of the period. What is the holding period return if the annual coupon rate is 4.5%? A. 4.08% B. 4.50% C. 5.10% D. 5.6%

A. 4.08%

88. If the coupon rate on a bond is 4.50% and the bond is selling at a premium, which of the following is the most likely yield to maturity on the bond? A. 4.30% B. 4.50% C. 5.20% D. 5.50%

A. 4.30%

69. The yield to maturity of an 10-year zero coupon bond, with a par value of $1,000 and a market price of $625, is _____. A. 4.8% B. 6.1% C. 7.7% D. 10.4%

A. 4.8%

71. What is the real rate of return on the TIPS bond in the first year? A. 5.00% B. 8.15% C. 7.15% D. 4.00%

A. 5.00%

41. A callable bond pays annual interest of $60, has a par value of $1,000, matures in 20 years but is callable in 10 years at a price of $1,100, and has a value today of $1055.84. The yield to call on this bond is _________. A. 6.00% B. 6.58% C. 7.20% D. 8.00%

A. 6.00%

82. The two factor model on a stock provides a risk premium for exposure to market risk of 8%, a risk premium for exposure to interest rate of (-2.3%), and a risk free rate of 3.0%. What is the expected return on the stock? A. 8.7% b. 11.0% c. 13.3% d. 15.2%

A. 8.7%

80. What is the standard deviation of a portfolio of two stocks given the following data? Stock A has a standard deviation of 18%. Stock B has a standard deviation of 14%. The portfolio contains 40% of stock A and the correlation coefficient between the two stocks is -.23. a. 9.7% b. 12.2% c. 14.0% d. 15.6%

A. 9.7%

All other things equal, which of the following has the longest duration? A. A 30 year bond with a 10% coupon B. A 20 year bond with a 9% coupon C. A 20 year bond with a 7% coupon D. A 10 year zero coupon bond

A. A 30 year bond with a 10% coupon

70. Two investment advisors are comparing performance. Advisor A averaged a 20% return with a portfolio beta of 1.5 and Advisor B averaged a 15% return with a portfolio beta of 1.2. If the T-bill rate was 5% and the market return during the period was 13%, which advisor was the better stock picker? A. Advisor A was better because he generated a larger alpha b. Advisor B was better because he generated a larger alpha c. Advisor A was better because he generated a higher return d. Advisor B was better because he achieved a good return with a lower beta

A. Advisor A was better because he generated a larger alpha

63. Assume that both X and Y are well-diversified portfolios and the risk-free rate is 8%. Portfolio X has an expected return of 14% and a beta of 1.00. Portfolio Y has an expected return of 9.5% and a beta of 0.25. In this situation, you would conclude that portfolios X and Y __________. A. Are in equilibrium b. Offer an arbitrage opportunity c. Are both underpriced d. Are both fairly priced

A. Are in equilibrium

5. Asset A has an expected return of 15% and a reward-to-variability ratio of .4. Asset B has an expected return of 20% and a reward-to-variability ratio of .3. A risk-averse investor would prefer a portfolio using the risk-free asset and _______. a. Asset A b. Asset B c. No risky asset d. Can't tell from the data given

A. Asset A

2. The _______ decision should take precedence over the _____ decision. a. Asset allocation, stock selection b. Choice of fad, mutual fund selection c. Stock selection, asset allocation d. Stock selection, mutual fund selection

A. Asset allocation, stock selection

18. Arbitrage is based on the idea that __________. A. Assets with identical risks must have the same expected rate of return b. Securities with similar risk should sell at different prices c. The expected returns from equally risky assets are different d. Markets are perfectly efficient

A. Assets with identical risks must have the same expected rate of return

_________ is equal to (common shareholders' equity/common shares outstanding). A. Book value per share B. Liquidation value per share C. Market value per share D. Tobin's Q E. none of the above

A. Book value per share

A bond portfolio manager notices a hump in the yield curve at the five year point. How might a bond manager take advantage of this event? A. Buy the 5 year bonds and short the surrounding maturity bonds B. Buy the 5 year bonds and buy the surrounding maturity bonds C. Short the 5 year bonds and short the surrounding maturity bonds D. Short the 5 year bonds and buy the surrounding maturity bonds

A. Buy the 5 year bonds and short the surrounding maturity bonds

What strategy might an insurance company employ to ensure that it will be able to meet the obligations of annuity holders? A. Cash flow matching B. Index tracking C. Yield pickup swaps D. Substitution swap

A. Cash flow matching

______________ is an important characteristic of the relationship between bond prices and yields. A. Convexity B. Concavity C. Complexity D. Linearity

A. Convexity

Your timing was good last year. You invested more in your portfolio right before prices went up, and you sold right before prices went down. In calculating historical performance measures, which one of the following will be the largest?

A. Dollar-weighted return

19. Bonds issued in the currency of the issuer's country but sold in other national markets are called _____________. A. Eurobonds B. Yankee bonds C. Samurai bonds D. foreign bonds

A. Eurobonds

12. If enough investors decide to purchase stocks they are likely to drive up stock prices thereby causing _____________ and ____________. A. Expected returns to fall; risk premiums to fall b. Expected returns to rise; risk premiums to fall c. Expected returns to rise; risk premiums to rise d. Expected returns to fall; risk premiums to rise

A. Expected returns to fall; risk premiums to fall

WACC is the most appropriate discount rate to use when applying a ______ valuation model. A. FCFF B. FCFE C. DDM D. A or C depending on the debt level of the firm E. P/E

A. FCFF

Which one of the following measures time-weighted returns and allows for compounding?

A. Geometric average return

50. Liquidity is a risk factor that ____. A. Has yet to be accurately measured and incorporated into portfolio management b. Is unaffected by trading mechanisms on various stock exchanges c. Has no effect on the market value of an asset d. Affects bond prices but not stock prices

A. Has yet to be accurately measured and incorporated into portfolio management

Portfolio performance is often decomposed into various subcomponents, such as the return due to: I. Broad asset allocation across security classes II. Sector weightings within equity markets III. Security selection with a given sector The one decision that contributes most to the fund performance is _____.

A. I

67. A discount bond that pays interest semiannually will ______. I. have a lower price than an equivalent annual payment bond II. have a higher EAR than an equivalent annual payment bond III. sell for less than its conversion value A. I and II only B. I and III only C. II and III only D. I, II and III

A. I and II only

2. Fama and French claim that after controlling for firm size and the ratio of book value to market value, beta is insignificant in explaining stock returns. This claim I. is supported by their analysis of historical stock return data II. is based on a well developed theoretical model III. implies that unsystematic risk is actually priced A. I only b. I and II only c. II and III only d. I, II and III

A. I only

46. In his famous critique of the CAPM, Roll argued that the CAPM _______________. A. Is not testable because the true market portfolio can never be observed b. Is of limited use because systematic risk can never be entirely eliminated c. Should be replaced by the APT d. Should be replaced by the Fama French 3 factor model

A. Is not testable because the true market portfolio can never be observed

54. A security's beta coefficient will be negative if _____________. a. Its returns are negatively correlated with market index returns b. Its returns are positively correlated with market index returns c. Its stock price has historically been very stable d. Market demand for the firm's shares is very low

A. Its returns are negatively correlated with market index returns

27. Reward-to-variability ratios are ________ on the capital market line than (as) on the efficient frontier. a. Lower b. Higher c. The same d. Indeterminate

A. Lower

38. In a single factor market model the beta of a stock A. Measures the stock's contribution to the standard deviation of the market portfolio b. Measures the stock's unsystematic risk c. Changes with the variance of the residuals d. Measures the stock's contribution to the standard deviation of the stock

A. Measures the stock's contribution to the standard deviation of the market portfolio

15. To eliminate the bias in calculating the variance and covariance of returns from historical data the average squared deviation must be multiplied by __________. a. N / (n-1) b. N * (n-1) c. (n-1) / n d. (n-1) * n

A. N / (n-1)

23. On a standard expected return vs standard deviation graph investors will prefer portfolios that lie to the a. Northeast b. Northwest c. Southeast d. Southwest

A. Northeast

58. The measure of unsystematic risk can be found from an index model as A. Standard error b. Multiple R c. Degrees of freedom d. Sum of squares of the regression

A. Standard error

86. Which stock is riskier to a non-diversified investor who puts all his money in only one of these stocks? a. Stock A is riskier b. Stock B is riskier c. Both stocks are equally risky d. You cannot tell from the information given

A. Stock A is riskier

60. If an investor does not diversify their portfolio and instead puts all of their money in one stock, the appropriate measure of security risk for that investor is the a. Stock's standard deviation b. Variance of the market c. Stock's beta d. Covariance with the market index

A. Stock's standard deviation

24. The beta of a security is equal to __________. A. The covariance between the security and market returns divided by the variance of the market's returns b. The covariance between the security and market returns divided by the standard deviation of the market's returns c. The variance of the security's returns divided by the covariance between the security and market returns d. The variance of the security's returns divided by the variance of the market's returns

A. The covariance between the security and market returns divided by the variance of the market's returns

24. The term "complete portfolio" refers to a portfolio consisting of __________________. a. The risk-free asset combined with at least one risky asset b. The market portfolio combined with the minimum variance portfolio c. Securities from domestic markets combined with securities from foreign markets d. Common stocks combined with bonds

A. The risk-free asset combined with at least one risky asset

59. Standard deviation is a measure of ____________. A. Total risk b. Relative systematic risk c. Relative non-systematic risk d. Relative business risk

A. Total risk

Which of the following combinations will produce the highest growth rate? Assume that the firm's projects offer a higher expected return than the market capitalization rate. A. a high plowback ratio and a high P/E ratio B. a high plowback ratio and a low P/E ratio C. a low plowback ratio and a low P/E ratio D. a low plowback ratio and a high P/E ratio E. Neither the plowback ratio nor the P/E ratio is related to a firm's growth.

A. a high plowback ratio and a high P/E ratio

If all ______ are ______ in the Treynor-Black model, there would be no reason to depart from the passive portfolio

A. alphas; zero

Because of convexity, when interest rates change the actual bond price will ____________ the bond price predicted by duration. A. always be higher than B. sometimes be higher than C. always be lower than D. sometimes be lower than

A. always be higher than

If an investment returns a higher percentage of your money back sooner it will ______. A. be less price volatile B. have a higher credit rating C. be less liquid D. have a higher modified duration

A. be less price volatile

31. A __________ bond is a bond where the issuer has an option to retire the bond before maturity at a specific price after a specific date. A. callable B. coupon C. puttable D. treasury

A. callable

Other things being equal, a low ________ would be most consistent with a relatively high growth rate of firm earnings and dividends. A. dividend payout ratio B. degree of financial leverage C. variability of earnings D. inflation rate E. none of the above

A. dividend payout ratio

Consider the theory of active portfolio management. Stocks A and B have the same positive alpha and the same nonsystematic risk. Stock A has a higher beta than stock B. You should want __________ in your active portfolio.

A. equal proportions of stocks A and B

62. Consider a 7-year bond with a 9% coupon and a yield to maturity of 12%. If interest rates remain constant, one year from now the price of this bond will be _________. A. higher B. lower C. the same D. indeterminate

A. higher

91. The ___________ is the document defining the contract between the bond issuer and the bondholder. A. indenture B. covenant agreement C. trustee agreement D. collateral statement

A. indenture

You have an investment horizon of 6 years. You choose to hold a bond with a duration of 4 years. Your realized rate of return will be larger than the promised yield on the bond if ___________________. A. interest rates increase B. interest rates stay the same C. interest rates fall D. one can't tell with the information given

A. interest rates increase

60. You can be sure that a bond will sell at a premium to par when _________. A. its coupon rate is greater than its yield to maturity B. its coupon rate is less than its yield to maturity C. its coupon rate equal to its yield to maturity D. its coupon rate is less than its conversion value

A. its coupon rate is greater than its yield to maturity

11. The primary difference between Treasury notes and bonds is ________. A. maturity at issue B. default risk C. coupon rate D. tax status

A. maturity at issue

In performance measurement, the bogey portfolio is designed to _________.

A. measure the returns to a completely passive strategy

The most appropriate discount rate to use when applying a FCFE valuation model is the ___________. A. required rate of return on equity B. WACC C. risk-free rate D. A or C depending on the debt level of the firm E. none of the above

A. required rate of return on equity

3. A collateral trust bond is _______. A. secured by other securities held by the firm B. secured by equipment owned by the firm C. secured by property owned by the firm D. unsecured

A. secured by other securities held by the firm

9. When discussing bonds, convexity relates to the _______. A. shape of the bond price curve with respect to interest rates B. shape of the yield curve with respect to maturity C. slope of the yield curve with respect to liquidity premiums D. size of the bid-ask spread

A. shape of the bond price curve with respect to interest rates

33. Serial bonds are associated with _________. A. staggered maturity dates B. collateral C. coupon payment dates D. conversion features

A. staggered maturity dates

1. The invoice price of a bond is the ______. A. stated or flat price in a quote sheet plus accrued interest B. stated or flat price in a quote sheet minus accrued interest C. bid price D. average of the bid and ask price

A. stated or flat price in a quote sheet plus accrued interest

The market risk premium is defined as __________.

A. the difference between the return on an index fund and the return on Treasury bills

The reward-to-volatility ratio is given by _________.

A. the slope of the capital allocation line

39. The duration rule always ________ the value of a bond following a change in its yield. A. under-estimates B. provides an unbiased estimate of C. over-estimates D. The estimated price may be biased either upward or downward, depending on whether the bond is trading at a discount or a premium

A. under-estimates

The goal of fundamental analysts is to find securities A. whose intrinsic value exceeds market price. B. with a positive present value of growth opportunities. C. with high market capitalization rates. D. all of the above. E. none of the above.

A. whose intrinsic value exceeds market price.

According to the Black-Scholes option pricing model, two options on the same stock but with different exercise prices should always have the same _________________. A. price B. expected return C. implied volatility D. maximum loss

According to the put-call parity theorem, the payoffs associated with ownership of a call option can be replicated by __________________. A. shorting the underlying stock, borrowing the present value of the exercise price, and writing a put on the same underlying stock and with the same exercise price B. buying the underlying stock, borrowing the present value of the exercise price, and buying a put on the same underlying stock and with the same exercise price C. buying the underlying stock, borrowing the present value of the exercise price, and writing a put on the same underlying stock and with the same exercise price D. shorting the underlying stock, lending the present value of the exercise price and buying a put on the same underlying stock and with the same exercise price

B (P = C - SO + PV(X) + PV(dividends))

According to the put-call parity theorem, the value of a European put option on a non-dividend paying stock is equal to: A. the call value plus the present value of the exercise price plus the stock price. B. the call value plus the present value of the exercise price minus the stock price. C. the present value of the stock price minus the exercise price minus the call price. D. the present value of the stock price plus the exercise price minus the call price. E. none of the above.

Sole Proprietorship

Advantages of ________: Easiest to start Least regulated single owner keeps all the profits taxed once as personal income

Corporation

Advantages of ________: Limited Liability unlimited life separation of ownership and management transfer of ownership is easy easier to raise capital

Partnership

Advantages of ________: Two or more owners More capitol available relatively easy to start income taxed once as a personal income

Advantages of exchange traded options over OTC options include all but which one of the following? A. Ease and low cost of trading B. Anonymity of participants C. Contracts that are tailored to meet the needs of market participants D. No concerns about counterparty credit risk

All else equal call option values are _____ if the _____ is lower. A. higher; stock price B. higher; exercise price C. lower; dividend payout D. lower; stock volatility

All else equal, call option values are higher A. in the month of May. B. for low dividend payout policies. C. for high dividend payout policies. D. A and B. E. A and C.

All else equal, call option values are lower A. in the month of May. B. for low dividend payout policies. C. for high dividend payout policies. D. A and B. E. A and C.

All else the same, an ______ style option will be ______ valuable than a ______ style option. A. American, more, European B. American, less, European C. American, more, Canadian D. American, less, Canadian

An American call option allows the buyer to A. sell the underlying asset at the exercise price on or before the expiration date. B. buy the underlying asset at the exercise price on or before the expiration date. C. sell the option in the open market prior to expiration. D. A and C. E. B and C.

An American call option gives the buyer the right to _________. A. buy the underlying asset at the exercise price on or before the expiration date B. buy the underlying asset at the exercise price only at the expiration date C. sell the underlying asset at the exercise price on or before the expiration date D. sell the underlying asset at the exercise price only at the expiration date

An American put option allows the holder to A. buy the underlying asset at the striking price on or before the expiration date. B. sell the underlying asset at the striking price on or before the expiration date. C. potentially benefit from a stock price decrease with less risk than short selling the stock. D. B and C. E. A and C.

An American put option gives its holder the right to _________. A. buy the underlying asset at the exercise price on or before the expiration date B. buy the underlying asset at the exercise price only at the expiration date C. sell the underlying asset at the exercise price on or before the expiration date D. sell the underlying asset at the exercise price only at the expiration date

An Asian call option gives its holder the right to ____________. A. buy the underlying asset at the exercise price on or before the expiration date B. buy the underlying asset at a price determined by the average stock price during some specified portion of the option's life C. sell the underlying asset at the exercise price on or before the expiration date D. sell the underlying asset at a price determined by the average stock price during some specified portion of the option's life

An Asian put option gives its holder the right to ____________. A. buy the underlying asset at the exercise price on or before the expiration date B. buy the underlying asset at a price determined by the average stock price during some specified portion of the option's life C. sell the underlying asset at the exercise price on or before the expiration date D. sell the underlying asset at a price determined by the average stock price during some specified portion of the option's life

Spread

An option trading strategy involving two or more call options or two or more put options.

An option with a payoff that depends on the average price of the underlying asset during at least some portion of the life of the option is called an ______ option. A. American B. European C. Asian D. Australian

is it possbile that a positive alpha will be associated with inferior performance?

As established in the following result from the text, the Sharpe ratio depends on both alpha for the portfolio (αP ) and the correlation between the portfolio and the market index (ρ):

Asian options differ from American and European options in that A. they are only sold in Asian financial markets. B. they never expire. C. their payoff is based on the average price of the underlying asset. D. both A and B. E. both A and C.

At contract maturity the value of a call option is ___________ where X equals the option's strike price and ST is the stock price at contract expiration. A. Max(0, ST - X) B. Min(0, ST - X) C. Max(0, X - ST) D. Min(0, X - ST)

At contract maturity the value of a put option is ___________ where X equals the option's strike price and ST is the stock price at contract expiration. A. Max(0, ST - X) B. Min(0, ST - X) C. Max(0, X - ST) D. Min(0, X - ST)

A firm has an earnings retention ratio of 40%. The stock has a market capitalization rate of 15% and an ROE of 18%. What is the stock's P/E ratio? A. 9.46 B. 7.69 C. 12.82 D. 8.33

ART has come out with a new and improved product. As a result, the firm projects an ROE of 25%, and it will maintain a plowback ratio of .20. Its earnings this year will be $3 per share. Investors expect a 12% rate of return on the stock. At what P/E ratio would you expect ART to sell? A. 14.29 B. 11.43 C. 8.33 D. 15.25

ART has come out with a new and improved product. As a result, the firm projects an ROE of 25%, and it will maintain a plowback ratio of .20. Its earnings this year will be $3 per share. Investors expect a 12% rate of return on the stock. At what price would you expect ART to sell? A. $25 B. $34.29 C. $42.86 D. $45.67

Ace Frisbee Corporation produces a good that is very mature in the firm's product life cycles. Ace Frisbee Corporation is expected to pay a dividend in year 1 of $3, a dividend in year 2 of $2, and a dividend in year 3 of $1. After year 3, dividends are expected to decline at the rate of 2% per year. An appropriate required return for the stock is 8%. Using the multistage DDM, the stock should be worth __________ today. A. $18.25 B. $13.07 C. $18.78 D. $13.58

Generally speaking, as a firm progresses through the industry life cycle, you would expect the PVGO to ________ as a percentage of share price. A. increase B. decrease C. No typical pattern can be expected. D. stay the same

If a firm increases its plowback ratio, this will probably result in _______ P/E ratio. A. a lower B. The answer cannot be determined from the information given. C. a higher D. an unchanged

Weyerhaeuser Incorporated has a balance sheet that lists $70 million in assets, $45 million in liabilities, and $25 million in common shareholders' equity. It has 1 million common shares outstanding. The replacement cost of its assets is $85 million. Its share price in the market is $49. Its book value per share is _________. A. $16.67 B. $25 C. $40.83 D. $37.50

70. ART has come out with a new and improved product. As a result, the firm projects an ROE of 25%, and it will maintain a plowback ratio of .20. Its earnings this year will be $3 per share. Investors expect a 12% rate of return on the stock. What is the present value of growth opportunities for ART? A. $8.57 B. $9.29 C. $14.29 D. $16.29

B P0=3.00(1-.2)/12-.25(.2)=34.29 PVGO = P0 - (EPS1/k) = 34.29 - (3/.12) = $9.29

The free cash flow to the firm is reported as $405 million. The interest expense to the firm is $76 million. If the tax rate is 35% and the net debt of the firm increased by $50 million, what is the free cash flow to the equity holders of the firm? A. $553.5 million B. $405.6 million C. $505.8 million D. $454.2 million

B FCFE = 405 - 76(1 - .35) + 50 = 405.6

Ace Ventura, Inc., has expected earnings of $5 per share for next year. The firm's ROE is 15%, and its earnings retention ratio is 40%. If the firm's market capitalization rate is 10%, what is the present value of its growth opportunities? A. $50 B. $25 C. $100 D. $75

B Value with no growth = $5/.10 = $50 Growth rate = .4 × 15% = 6% Value with growth = $5 × (1 - .4)/(.10 - .06) = $75 PVGO = $75 - 50 = $25

If you expect a larger interest rate increase than other market participants do, you would A) buy long-term bonds B) buy short-term bonds C) buy long-term government bonds only D) buy short-term government bonds only

B) buy short-term bonds

79. A bond has a flat price of $985 and it pays an annual coupon. The last coupon payment was made 90 days ago. What is the invoice price if the annual coupon is $69? A. $999.55 B. $1,002.01 C. $1,007.45 D. $1,012.13

B. $1,002.01

68. A 6% coupon U.S. treasury note pays interest on May 31 and November 30 and is traded for settlement on August 10. The accrued interest on $100,000 face amount of this note is _________. A. $581.97 B. $1,163.93 C. $2,327.87 D. $3,000.00

B. $1,163.93

36. A convertible bond has a par value of $1,000 but its current market price is $975. The current price of the issuing company's stock is $26 and the conversion ratio is 34 shares. The bond's market conversion value is _________. A. $1,000 B. $884 C. $933 D. $980

B. $884

54. A bond has a par value of $1,000, a time to maturity of 10 years, and a coupon rate of 8% with interest paid annually. If the current market price is $750, what is the approximate capital gain yield of this bond over the next year? A. 0.7% B. 1.8% C. 2.5% D. 3.4%

B. 1.8%

81. What is the standard deviation of a portfolio of two stocks given the following data? Stock A has a standard deviation of 30%. Stock B has a standard deviation of 18%. The portfolio contains 60% of stock A and the correlation coefficient between the two stocks is -1.0. a. 0.0% b. 10.8% c. 18.0% d. 24.0%

B. 10.8%

77. Research has identified two systematic factors that affect U.S. stock returns. The factors are growth in industrial production and changes in long term interest rates. Industrial production growth is expected to be 3% and long term interest rates are expected to increase by 1% and based on this data You are analyzing a stock is that has a beta of 1.2 on the industrial production factor and 0.5 on the interest rate factor. It currently has an expected return of 12%. However, if industrial production actually grows 5% and interest rates drop 2% what is your best guess of the stock's return? a. 15.9% B. 12.9% c. 13.2% d. 12.0%

B. 12.9%

40. An investor can design a risky portfolio based on two stocks, A and B. The standard deviation of return on stock A is 20% while the standard deviation on stock B is 15%. The expected return on stock A is 20% while on stock B it is 10%. The correlation coefficient between the return on A and B is 0%. The expected return on the minimum variance portfolio is approximately __________. a. 10.00% b. 13.60% c. 15.00% d. 19.41%

B. 13.60%

30. A portfolio is composed of two stocks, A and B. Stock A has a standard deviation of return of 35% while stock B has a standard deviation of return of 15%. The correlation coefficient between the returns on A and B is 0.45. Stock A comprises 40% of the portfolio while stock B comprises 60% of the portfolio. The standard deviation of the return on this portfolio is __________. a. 23.00% b. 19.76% c. 18.45% d. 17.67%

B. 19.76%

39. Security A has an expected rate of return of 12% and a beta of 1.10. The market expected rate of return is 8% and the risk-free rate is 5%. The alpha of the stock is __________. a. -1.7% B. 3.7% c. 5.5% d. 8.7%

B. 3.7%

66. The characteristic line for this stock is Rstock = ___ + ___ Rmarket. a. 0.35, 0.12 b. 4.05, 1.32 c. 15.44, 0.97 d. 0.26, 1.36

B. 4.05, 1.32

87. An investor pays $989.40 for a bond. The bond has an annual coupon rate of 4.8%. What is the current yield on this bond? A. 4.80% B. 4.85% C. 9.60% D. 9.70%

B. 4.85%

The duration of a 5-year zero coupon bond is ____ years. A. 4.5 B. 5.0 C. 5.5 D. 3.5

B. 5.0

36. The proportion of the optimal risky portfolio that should be invested in stock B is approximately __________. a. 29% b. 71% c. 44% d. 56%

B. 71%

83. A project has a 60% chance of doubling your investment in one year and a 40% chance of losing half your money. What is the standard deviation of this investment? a. 62% b. 73% c. 50% d. 25%

B. 73%

56. Which of the following bonds would most likely sell at the lowest yield? A. A callable debenture B. A putable mortgage bond C. A callable mortgage bond D. A putable debenture

B. A putable mortgage bond

28. Consider the single factor APT. Portfolio A has a beta of 1.3 and an expected return of 21%. Portfolio B has a beta of 0.7 and an expected return of 17%. The risk-free rate of return is 8%. If you wanted to take advantage of an arbitrage opportunity, you should take a short position in portfolio __________ and a long position in portfolio __________. a. A, A B. A, B c. B, A d. B, B

B. A, B

57. A stock's alpha measures the stock's ________________________________. a. Expected return B. Abnormal return c. Excess return d. Residual return

B. Abnormal return

49. You are constructing a scatter plot of excess returns for Stock A versus the market index. If the correlation coefficient between Stock A and the index is -1 you will find that the points of the scatter diagram ______________________ and the line of best fit has a _______________. a. All fall on the line of best fit; positive slope b. All fall on the line of best fit; negative slope c. Are widely scattered around the line; positive slope d. Are widely scattered around the line; negative slope

B. All fall on the line of best fit; negative slope

25. According to the capital asset pricing model, __________. a. All securities' returns must lie on the capital market line B. All securities' returns must lie on the security market line c. The slope of the security market line must be less than the market risk premium d. Any security with a beta of 1 must have an excess return of zero

B. All securities' returns must lie on the security market line

10. In the context of the capital asset pricing model, the systematic measure of risk is __________. a. Unique risk B. Beta c. Standard deviation of returns d. Variance of returns

B. Beta

41. The risk-free rate is 4%. The expected market rate of return is 11%. If you expect stock X with a beta of .8 to offer a rate of return of 12 percent, then you should __________. a. Buy stock X because it is overpriced B. Buy stock X because it is underpriced c. Sell short stock X because it is overpriced d. Sell short stock X because it is underpriced

B. Buy stock X because it is underpriced

8. The ________ is equal to the square root of the systematic variance divided by the total variance. a. Covariance b. Correlation coefficient c. Standard deviation d. Reward-to-variability ratio

B. Correlation coefficient

71. The expected return on the market is the risk free rate plus the ______________. a. Diversified returns B. Equilibrium risk premium c. Historical market return d. Unsystematic return

B. Equilibrium risk premium

14. The risk that can be diversified away is ___________. a. Beta b. Firm specific risk c. Market risk d. Systematic risk

B. Firm specific risk

4. Based on the outcomes in the table below choose which of the statements is/are correct: I. The covariance of Security A and Security B is zero II. The correlation coefficient between Security A and C is negative III. The correlation coefficient between Security B and C is positive a. I only b. I and II only c. II and III only d. I, II and III

B. I and II only

44. The part of a stock's return that is systematic is a function of which of the following variables? I. Volatility in excess returns of the stock market II. The sensitivity of the stock's returns to changes in the stock market III. The variance in the stock's returns that is unrelated to the overall stock market a. I only b. I and II only c. II and III only d. I, II and III

B. I and II only

7. As you lengthen the time horizon of your investment period and decide to invest for multiple years you will find that I. the average risk per year may be smaller over longer investment horizons II. the variance of the total rate of return on your investment will be larger III. your overall risk on the investment will fall a. I only b. I and II only c. III only d. I, II and III

B. I and II only

Which of the following arguments supporting passive investment strategies is (are) correct? I. Active trading strategies may not guarantee higher returns but guarantee higher costs. II. Passive investors can free-ride on the activity of knowledge investors whose trades force prices to reflect currently available information. III. Passive investors are guaranteed to earn higher rates of return than active investors over sufficiently long time horizons.

B. I and II only

You invest all of your money in 1-year T-bills. Which of the following statements is (are) correct? I. Your nominal return on the T-bills is riskless. II. Your real return on the T-bills is riskless. III. Your nominal Sharpe ratio is zero

B. I and III only

3. Which of the following are assumptions of the simple CAPM model? I. Individual trades of investors do not affect a stock's price II. All investors plan for one identical holding period III. All investors analyze securities in the same way and share the same economic view of the world IV. All investors have the same level of risk aversion a. I, II and IV only B. I, II and III only c. II, III and IV only d. I, II, III and IV

B. I, II and III only

14. To earn a high rating from the bond rating agencies, a company would want to have _________. I. a low times interest earned ratio II. a low debt to equity ratio III. a high quick ratio A. I only B. II and III only C. I and III only D. I, II and III

B. II and III only

48. In a study conducted by Jagannathan and Wang, it was found that the performance of beta in explaining security returns could be considerably enhanced by ______________. I. including the unsystematic risk of a stock II. including human capital in the market portfolio III. allowing for changes in beta over time a. I and II only B. II and III only c. I and III only d. I, II and III

B. II and III only

59. Some diversification benefits can be achieved by combining securities in a portfolio as long as the correlation between the securities is ______________. a. 1 b. Less than 1 c. Between 0 and 1 d. Less than or equal to 0

B. Less than 1

_______ is the amount of money per common share that could be realized by breaking up the firm, selling the assets, repaying the debt, and distributing the remainder to shareholders. A. Book value per share B. Liquidation value per share C. Market value per share D. Tobin's Q E. None of the above

B. Liquidation value per share

25. Rational risk-averse investors will always prefer portfolios ______________. a. Located on the efficient frontier to those located on the capital market line b. Located on the capital market line to those located on the efficient frontier c. At or near the minimum variance point on the efficient frontier d. That are risk-free to all other asset choices

B. Located on the capital market line to those located on the efficient frontier

33. The possibility of arbitrage arises when _____________. a. There is no consensus among investors regarding the future direction of the market, and thus trades are made arbitrarily B. Mis-pricing among securities creates opportunities for riskless profits c. Two identically risky securities carry the same expected returns d. Investors do not diversify

B. Mis-pricing among securities creates opportunities for riskless profits

The M2 measure of portfolio performance was developed by ______________.

B. Modigliani and Modigliani

11. Diversification is most effective when security returns are __________. a. High b. Negatively correlated c. Positively correlated d. Uncorrelated

B. Negatively correlated

32. Security X has an expected rate of return of 13% and a beta of 1.15. The risk-free rate is 5% and the market expected rate of return is 15%. According to the capital asset pricing model, security X is __________. a. Fairly priced B. Overpriced c. Underpriced d. None of the above

B. Overpriced

51. Beta is a measure of _______________. a. Total risk B. Relative systematic risk c. Relative non-systematic risk d. Relative business risk

B. Relative systematic risk

A mutual fund invests in large-capitalization stocks. Its performance should be measured against which one of the following

B. S&P 500 Index

9. The arbitrage pricing theory was developed by __________. a. Henry Markowitz B. Stephen Ross c. William Sharpe d. Eugene Fama

B. Stephen Ross

85. Which stock is riskier for an investor currently holding his portfolio in a well diversified portfolio of common stock? a. Stock A is riskier b. Stock B is riskier c. Both stocks are equally risky d. You cannot tell from the information given

B. Stock B is riskier

. Market economists all predict a rise in interest rates. An astute bond manager wishing to maximize her capital gain might employ which strategy? A. Switch from low duration to high duration bonds. B. Switch from high duration to low duration bonds. C. Switch from high grade to low grade bonds. D. Switch from low coupon to high coupon bonds

B. Switch from high duration to low duration bonds.

76. A portfolio of stocks fluctuates when the treasury yields change. Since this risk can not be eliminated through diversification, it is called a. Firm specific risk b. Systematic risk c. Unique risk d. None of the above

B. Systematic risk

17. Market risk is also called __________ and __________. a. Systematic risk, diversifiable risk b. Systematic risk, nondiversifiable risk c. Unique risk, nondiversifiable risk d. Unique risk, diversifiable risk

B. Systematic risk, nondiversifiable risk

27. In a world where the CAPM holds which one of the following is not a true statement regarding the capital market line? a. The capital market line always has a positive slope B. The capital market line is also called the security market line c. The capital market line is the best attainable capital allocation line d. The capital market line is the line from the risk-free rate through the market portfolio

B. The capital market line is also called the security market line

56. Arbitrage is ___________________________. a. Is an example of the law of one price B. The creation of riskless profits made possible by relative mispricing among securities c. Is a common opportunity in modern markets d. An example of a risky trading strategy based on market forecasting

B. The creation of riskless profits made possible by relative mispricing among securities

21. Suppose that a stock portfolio and a bond portfolio have a zero correlation. This means that a. The returns on the stock and bond portfolio tend to move inversely b. The returns on the stock and bond portfolio tend to vary independently of each other c. The returns on the stock and bond portfolio tend to move together d. The covariance of the stock and bond portfolio will be positive

B. The returns on the stock and bond portfolio tend to vary independently of each other

52. According to capital asset pricing theory, the key determinant of portfolio returns is __________. a. The degree of diversification B. The systematic risk of the portfolio c. The firm specific risk of the portfolio d. Economic factors

B. The systematic risk of the portfolio

The __________ calculates the reward to risk trade-off by dividing the average portfolio excess return by the portfolio beta.

B. Treynor measure

6. Adding additional risky assets to the investment opportunity set will generally move the efficient frontier _____ and to the _______. a. Up, right b. Up, left c. Down, right d. Down, left

B. Up, left

9. Which of the following statistics cannot be negative? a. Covariance b. Variance c. E[r] d. Correlation coefficient

B. Variance

The most appropriate discount rate to use when applying a FCFF valuation model is the ___________. A. required rate of return on equity B. WACC C. risk-free rate D. A or C depending on the debt level of the firm E. none of the above

B. WACC

A company whose stock is selling at a P/E ratio greater than the P/E ratio of a market index most likely has _________. A. an anticipated earnings growth rate which is less than that of the average firm B. a dividend yield which is less than that of the average firm C. less predictable earnings growth than that of the average firm D. greater cyclicality of earnings growth than that of the average firm E. none of the above.

B. a dividend yield which is less than that of the average firm

A portfolio manager believes interest rates will drop and decides to sell short duration bonds and buy long duration bonds. This is an example of __________ swap. A. a pure yield pick up B. a rate anticipation C. a substitution D. an inter-market spread

B. a rate anticipation

35. Consider the expectations theory of the term structure of interest rates. If the yield curve is downward sloping, this indicates that investors expect short-term interest rates to __________ in the future. A. increase B. decrease C. not change D. change in an unpredictable manner

B. decrease

When interest rates increase, the duration of a 20-year bond selling at a premium _________. A. increases B. decreases C. remains the same D. increases at first, then declines

B. decreases

A market-timing strategy is one in which asset allocation in the stock market __________ when one forecasts that the stock market will outperform Treasury bills.

B. increases

A bond's price volatility _________ at a/an _________ rate as maturity increases. A. increases; increasing B. increases; decreasing C. decreases; increasing D. decreases; decreasing

B. increases; decreasing

The _______ is defined as the present value of all cash proceeds to the investor in the stock. A. dividend payout ratio B. intrinsic value C. market capitalization rate D. plowback ratio E. none of the above

B. intrinsic value

The duration of a perpetuity varies _______ with interest rates. A. directly B. inversely C. convexly D. randomly

B. inversely

Suppose that over the same time period two portfolios have the same average return and the same standard deviation of return, but portfolio A has a higher beta than portfolio B. According to the Sharpe ratio, the performance of portfolio A __________.

B. is the same as the performance of portfolio B

Which of the following is the best measure of the floor for a stock price? A. book value B. liquidation value C. replacement cost D. market value E. Tobin's Q

B. liquidation value

Pension fund managers can generally best bring about an effective reduction in their interest rate risk by holding ___________________. A. long maturity bonds B. long duration bonds C. short maturity bonds D. short duration bonds

B. long duration bonds

29. Everything else equal the __________ the maturity of a bond and the __________ the coupon the greater the sensitivity of the bond's price to interest rate changes. A. longer; higher B. longer; lower C. shorter; higher D. shorter; lower

B. longer; lower

All else equal, bond price volatility is greater for __________. A. higher coupon rates B. lower coupon rates C. shorter maturity D. lower default risk

B. lower coupon rates

Historically, P/E ratios have tended to be _________. A. higher when inflation has been high B. lower when inflation has been high C. uncorrelated with inflation rates but correlated with other macroeconomic variables D. uncorrelated with any macroeconomic variables including inflation rates E. none of the above

B. lower when inflation has been high

A version of earnings management that became common in the 1990s was A. when management makes changes in the operations of the firm to ensure that earning do not increase or decrease too rapidly. B. reporting "pro forma" earnings". C. when management makes changes in the operations of the firm to ensure that earning do not increase too rapidly. D. when management makes changes in the operations of the firm to ensure that earning do not decrease too rapidly. E. none of the above.

B. reporting "pro forma" earnings".

In a pure yield pickup swap, ________ bonds are exchanged for _________ bonds. A. longer duration; shorter duration B. shorter duration; longer duration C. high coupon; high yield D. low yield; high yield

B. shorter duration; longer duration

In the context of a bond portfolio, price risk and reinvestment rate risk exactly cancel out at a time horizon equal to ____. A. the average bond maturity in the portfolio B. the duration of the portfolio C. the difference between the shortest duration and longest duration of the individual bonds in the portfolio D. the average of the shortest duration and longest duration of the bonds in the portfolio

B. the duration of the portfolio

Convexity of a bond is ___________. A. the same as horizon analysis B. the rate of change of the price-yield curve divided by bond price C. a measure of bond duration D. none of the above

B. the rate of change of the price-yield curve divided by bond price

Investors want high plowback ratios A. for all firms. B. whenever ROE > k. C. whenever k > ROE. D. only when they are in low tax brackets. E. whenever bank interest rates are high.

B. whenever ROE > k.

For most firms, P/E ratios and risk A. will be directly related. B. will have an inverse relationship. C. will be unrelated. D. will both increase as inflation increases. E. none of the above.

B. will have an inverse relationship.

Barrier Options have payoffs that A. have payoffs that only depend on the minimum price of the underlying asset during the life of the option. B. depend both on the asset's price at expiration and on whether the underlying asset's price has crossed through some barrier. C. are known in advance. D. have payoffs that only depend on the maximum price of the underlying asset during the life of the option. E. none of the above.

Binary Options A. are based on two possible outcomes - yes or no. B. may make a payoff of a fixed amount if a specified event happens. C. may make a payoff of a fixed amount if a specified event does not happen. D. A and B only. E. A, B, and C.

C (Buyers of call options pose no risk as they have no commitment. If the option expires worthless, the buyer merely loses the option premium. If the option is in the money at expiration and the buyer lacks funds, there is no requirement to exercise. The seller of a put option is committed to selling the stock at the exercise price. If the seller of the option does not own the underlying stock the seller must go into the open market and buy the stock in order to be able to sell the stock to the buyer of the contract.)

Buyers of call options __________ required to post margin deposits and sellers of put options __________ required to post margin deposits. A. are; are not B. are; are C. are not; are D. are not; are not E. are always; are sometimes

D (The buyer of the put option hopes the price will fall in order to exercise the option and sell the stock at a price higher than the market price. Likewise, the seller of the call option hopes the price will decrease so the option will expire worthless.)

Buyers of put options anticipate the value of the underlying asset will __________ and sellers of call options anticipate the value of the underlying asset will ________. A. increase; increase B. decrease; increase C. increase; decrease D. decrease; decrease E. cannot tell without further information

A firm reports EBIT of $100 million. The income statement shows depreciation of $20 million. If the tax rate is 35% and total capital expenditures and increases in working capital total $10 million, what is the free cash flow to the firm? A. $95 B. $65 C. $75 D. $57

Assuming all other factors remain unchanged, __________ would increase a firm's price-earnings ratio. A. an increase in the dividend payout ratio B. an expected increase in the level of inflation C. a reduction in investor risk aversion D. an increase in the yield on Treasury bills

Estimates of a stock's intrinsic value calculated with the free cash flow methodology depend most critically on _______. A. whether the firm is currently paying dividends B. the time period used to estimate the cash flows C. the terminal value used D. whether one uses FCFF or FCFE

Firms with higher expected growth rates tend to have P/E ratios that are ___________ the P/E ratios of firms with lower expected growth rates. A. There is not necessarily any linkage between risk and P/E ratios. B. equal to C. higher than D. lower than

The price-to-sales ratio is probably most useful for firms in which phase of the industry life cycle? A. Relative decline B. Maturity C. Start-up phase D. Consolidation

Which one of the following statements about market and book value is correct? A. All firms sell at a market-to-book ratio greater than or equal to 1. B. All firms sell at a market-to-book ratio below 1. correct C. Most firms have a market-to-book ratio above 1, but not all. D. All firms sell at a market-to-book ratio above 1.

You want to earn a return of 11% on each of two stocks, A and B. Stock A is expected to pay a dividend of $3 in the upcoming year, while stock B is expected to pay a dividend of $2 in the upcoming year. The expected growth rate of dividends for both stocks is 4%. Using the constant-growth DDM, the intrinsic value of stock A _________. A. will be less than the intrinsic value of stock B B. will be the same as the intrinsic value of stock B C. will be higher than the intrinsic value of stock B D. The answer cannot be determined from the information given.

A firm has a stock price of $55 per share and a P/E ratio of 75. If you buy the stock at this P/E and earnings fail to grow at all, how long should you expect it to take to just recover the cost of your investment? A. 55 years B. 37 years C. 75 years D. 27 years

C EPS = $55/75 = $.73333 per year Payback period = $55/$.73333 per year = 75 years

The free cash flow to the firm is reported as $198 million. The interest expense to the firm is $15 million. If the tax rate is 35% and the net debt of the firm increased by $20 million, what is the approximate market value of the firm if the FCFE grows at 3% and the cost of equity is 14%? A. $2,585 billion B. $3,098 billion C. $1,950 billion D. $2,497 billion

C FCFE = 198 - 15(1 - .35) + 20 = 208.25 Value = (208.25 × 1.03)/(.14 - .03) = 1,950

Annie's Donut Shops, Inc., has expected earnings of $3 per share for next year. The firm's ROE is 18%, and its earnings retention ratio is 60%. If the firm's market capitalization rate is 12%, what is the value of the firm excluding any growth opportunities? A. $50 B. $208 C. $25 D. $83.33

C Value with no growth = $3/.12 = $25

Assume the U.S. government was to decide to increase its budget deficit. This will cause __________ to increase. A) interest rates B) the output of the economy C) both a and b D) neither a nor b

C) both a and b

In the dividend discount model, _______ which of the following are not incorporated into the discount rate? A) real risk-free rate B) risk premium for stocks C) return on assets D) expected inflation rate E) none of the above

C) return on assets

An analyst starts by examining the broad economic environment and then considers the implications of the outside environment on the industry in which the firm operates. Finally, the firm's position within the industry is examined. This is called __________ analysis.

C) top-down

How a company raises capital and how they budget or invest it are considered independently. The financing department is responsible for keeping costs low and using a balance of funding sources. In the short term, a company may overemphasize the most recently issued capital, but in the long run, the firm will ascribe to target weights for each capital type. The investment decision should be made assuming a weighted average cost of capital including each of the different sources of capital and long-run target weights. . risk-free rate. B. net present value of the project to be financed. C. percentage of financing coming from each financing source. D. company's product.

C. percentage of financing coming from each financing source.

44. A coupon bond pays semi-annual interest is reported as having an ask price of 117% of its $1,000 par value in the Wall Street Journal. If the last interest payment was made 2 months ago and the coupon rate is 6%, the invoice price of the bond will be _________. A. $1,140 B. $1,170 C. $1,180 D. $1,200

C. $1,180

20. You buy a TIPS at issue at par for $1,000. The bond has a 3% coupon. Inflation turns out to be 2%, 3% and 4% over the next three years. The total annual coupon income you will receive in year three is _________. A. $30.00 B. $33.00 C. $32.78 D. $30.90

C. $32.78

76. If the quote for a Treasury bond is listed in the newspaper as 98:09 bid, 98:13 ask, the actual price for you to purchase this bond given a $10,000 par value is _____________. A. $9,828.12 B. $9,809.38 C. $9,840.62 D. $9,813.42

C. $9,840.62

85. You buy a 10 year $1,000 par zero coupon bond priced to yield 6%. You do not sell the bond. If you are in a 28% tax bracket you will owe taxes on this investment after the first year equal to _______. A. $0 B. $4.27 C. $9.38 D. $33.51

C. $9.38

29. The standard deviation of return on investment A is .10 while the standard deviation of return on investment B is .05. If the covariance of returns on A and B is .0030, the correlation coefficient between the returns on A and B is __________. a. .12 b. .36 c. .60 d. .77

C. .60

73. What is the most likely correlation coefficient between a stock index mutual fund and the S&P 500? a. -1.0 b. 0.0 c. 1.0 d. 0.50

C. 1.0

37. You invest $600 in security A with a beta of 1.5 and $400 in security B with a beta of .90. The beta of this portfolio is __________. a. 1.14 b. 1.20 C. 1.26 d. 2.40

C. 1.26

66. What is the beta for a portfolio with an expected return of 12.5%? a. 0 b. 1 C. 1.5 d. 2

C. 1.5

42. Consider the one-factor APT. The standard deviation of return on a well-diversified portfolio is 20%. The standard deviation on the factor portfolio is 12%. The beta of the well-diversified portfolio is approximately __________. a. 0.60 b. 1.00 C. 1.67 d. 3.20

C. 1.67

36. Consider the capital asset pricing model. The market degree of risk aversion, A, is 3. The variance of return on the market portfolio is .0225. If the risk-free rate of return is 4%, the expected return on the market portfolio is __________. a. 6.75% b. 9.0% C. 10.75% d. 12.0%

C. 10.75%

41. An investor can design a risky portfolio based on two stocks, A and B. The standard deviation of return on stock A is 20% while the standard deviation on stock B is 15%. The correlation coefficient between the return on A and B is 0%. The standard deviation of return on the minimum variance portfolio is __________. a. 0% b. 6% c. 12% d. 17%

C. 12%

75. According to the CAPM, what is the expected market return given an expected return on a security of 14.6%, a stock beta of 1.2, and a risk free interest rate of 5.0%? a. 4.0% b. 8.0% C. 13.0% d. 16.0%

C. 13.0%

Bond Maturity YtM A 1 6% B 2 7.5% C 3 7.99% D 4 8.49% E 5 10.70% 52. The expected two year interest rate three years from now should be _________. A. 9.55% B. 11.74% C. 14.89% D. 13.73%

C. 14.89%

30. Consider the multi-factor APT with two factors. Portfolio A has a beta of 0. 5 on factor 1 and a beta of 1.25 on factor 2. The risk premiums on the factors 1 and 2 portfolios are 1% and 7% respectively. The risk-free rate of return is 7%. The expected return on portfolio A is __________ if no arbitrage opportunities exist. a. 13.5% b. 15.0% C. 16.25% d. 23.0%

C. 16.25%

32. Consider two perfectly negatively correlated risky securities, A and B. Security A has an expected rate of return of 16% and a standard deviation of return of 20%. B has an expected rate of return 10% and a standard deviation of return of 30%. The weight of security B in the global minimum variance is __________. a. 10% b. 20% c. 40% d. 60%

C. 40%

48. You purchased a 5-year annual interest coupon bond one year ago. Its coupon interest rate was 6% and its par value was $1,000. At the time you purchased the bond, the yield to maturity was 4%. If you sold the bond after receiving the first interest payment and the bond's yield to maturity had changed to 3%, your annual total rate of return on holding the bond for that year would have been approximately _________. A. 5.0% B. 5.5% C. 7.6% D. 8.9%

C. 7.6%

39. A coupon bond which pays interest of $60 annually, has a par value of $1,000, matures in 5 years, and is selling today at a $84.52 discount from par value. The approximate yield to maturity on this bond is _________. A. 6% B. 7% C. 8% D. 9%

C. 8%

8. Consider the CAPM. The expected return on the market is 18%. The expected return on a stock with a beta of 1.2 is 20%. What is the risk-free rate? a. 2% b. 6% C. 8% d. 12%

C. 8%

39. An investor can design a risky portfolio based on two stocks, A and B. The standard deviation of return on stock A is 24% while the standard deviation on stock B is 14%. The correlation coefficient between the return on A and B is 0.35. The expected return on stock A is 25% while on stock B it is 11%. The proportion of the minimum variance portfolio that would be invested in stock B is __________. a. 45% b. 67% c. 85% d. 92%

C. 85%

75. One, two and three year maturity, default-free, zero-coupon bonds have yields-to-maturity of 7%, 8% and 9% respectively. What is the implied one-year forward rate, one year from today? A. 2.0% B. 8.0% C. 9.0% D. 11.1%

C. 9.0%

55. Consider the following $1,000 par value zero-coupon bonds: Bond Maturity YtM A 1 6% B 2 7.5% C 3 8% D 4 8.5% E 5 10.25% The expected one-year interest rate two years from now should be _________. A. 7.00% B. 8.00% C. 9.00% D. 10.00%

C. 9.00%

58. Consider the following $1,000 par value zero-coupon bonds: Bond Maturity YtM A 1 6% B 2 7% C 3 7.99% D 4 9.41% E 5 10.70% The expected one-year interest rate three years from now should be _________. A. 7.00% B. 8.00% C. 9.00% D. 10.00%

C. 9.00%

Bond Maturity YtM A 1 6% B 2 7.5% C 3 7.99% D 4 8.49% E 5 10.70% 50. The expected one-year interest rate one year from now should be about _________. A. 6.00% B. 7.50 % C. 9.00% D. 10.00%

C. 9.00%

All other things equal, which of the following has the longest duration? A. A 20 year bond with a 10% coupon yielding 10% B. A 20 year bond with a 10% coupon yielding 11% C. A 20 year zero coupon bond yielding 10% D. A 20 year zero coupon bond yielding 11%

C. A 20 year zero coupon bond yielding 10%

19. Which one of the following stock return statistics is usually the least stable over time? a. Covariance of returns b. Variance of returns c. Average return d. Correlation coefficient

C. Average return

29. Consider the single factor APT. Portfolio A has a beta of 0.2 and an expected return of 13%. Portfolio B has a beta of 0.4 and an expected return of 15%. The risk-free rate of return is 10%. If you wanted to take advantage of an arbitrage opportunity, you should take a short position in portfolio __________ and a long position in portfolio __________. a. A, A b. A, B C. B, A d. B, B

C. B, A

44. Consider the following two stocks, A and B. Stock A has an expected return of 10% and a beta of 1.20. Stock B has an expected return of 14% and a beta of 1.80. The expected market rate of return is 9% and the risk-free rate is 5%. Security __________ would be considered a good buy because __________. a. A, it offers an expected excess return of 0.8% b. A, it offers an expected excess return of 2.2% C. B, it offers an expected excess return of 1.8% d. B, it offers an expected return of 2.4%

C. B, it offers an expected excess return of 1.8%

70. If you want to know the portfolio standard deviation for a three stock portfolio you will have to a. Calculate two covariances and one trivariance b. Calculate only two covariances c. Calculate three covariances d. Average the variances of the individual stocks

C. Calculate three covariances

27. _______ bonds represent a novel way of obtaining insurance from capital markets against specified disasters. A. Asset backed bonds B. TIPS C. Catastrophe D. Pay in Kind

C. Catastrophe

51. You are recalculating the risk of ACE stock in relation to the market index and you find the ratio of the systematic variance to the total variance has risen. You must also find that the _____________. a. Covariance between ACE and the market has fallen b. Correlation coefficient between ACE and the market has fallen c. Correlation coefficient between ACE and the market has risen d. Unsystematic risk of ACE has risen

C. Correlation coefficient between ACE and the market has risen

34. In an era of particularly low interest rates, which of the following bonds is most likely to be called? A. Zero coupon bonds B. Coupon bonds selling at a discount C. Coupon bonds selling at a premium D. Floating rate bonds

C. Coupon bonds selling at a premium

45. According to the CAPM, the risk premium an investor expects to receive on any stock or portfolio is ________________. a. Directly related to the risk aversion of the particular investor b. Inversely related to the risk aversion of the particular investor C. Directly related to the beta of the stock d. Inversely related to the alpha of the stock

C. Directly related to the beta of the stock

16. Consider an investment opportunity set formed with two securities that are perfectly negatively correlated. The global minimum variance portfolio has a standard deviation that is always __________. a. Equal to the sum of the securities standard deviations b. Equal to -1 c. Equal to 0 d. Greater than 0

C. Equal to 0

Based on the data you know that the stock a. Earned a positive alpha that is statistically significantly different from zero b. Has a beta precisely equal to 0.890 C. Has a beta that could be anything between 0.6541 and 1.465 inclusive d. Has no systematic risk

C. Has a beta that could be anything between 0.6541 and 1.465 inclusive

16. If all investors become more risk averse the SML will _______________ and stock prices will ________________. a. Shift upward; rise b. Shift downward; fall C. Have the same intercept with a steeper slope; fall d. Have the same intercept with a flatter slope; rise

C. Have the same intercept with a steeper slope; fall

47. Which of the following variables do Fama and French claim do a better job explaining stock returns than beta? I. Book to market ratio II. Unexpected change in industrial production III. Firm size a. I only b. I and II only C. I and III only d. I, II and III

C. I and III only

The present value of growth opportunities (PVGO) is equal to I) the difference between a stock's price and its no-growth value per share. II) the stock's price III) zero if its return on equity equals the discount rate. IV) the net present value of favorable investment opportunities. A. I and IV B. II and IV C. I, III, and IV D. II, III, and IV E. III and IV

C. I, III, and IV

26. The optimal risky portfolio can be identified by finding _____________. I. the minimum variance point on the efficient frontier II. the maximum return point on the efficient frontier the minimum variance point on the efficient frontier III. the tangency point of the capital market line and the efficient frontier IV. the line with the steepest slope that connects the risk free rate to the efficient frontier a. I and II only b. II and III only c. III and IV only d. I and IV only

C. III and IV only

48. According to Tobin's separation property, portfolio choice can be separated into two independent tasks consisting of __________ and ___________. a. Identifying all investor imposed constraints; identifying the set of securities that conform to the investor's constraints and offer the best risk-return tradeoffs b. Identifying the investor's degree of risk aversion; choosing securities from industry groups that are consistent with the investor's risk profile c. Identifying the optimal risky portfolio; constructing a complete portfolio from T-bills and the optimal risky portfolio based on the investor's degree of risk aversion d. Choosing which risky assets an investor prefers according to their risk aversion level; minimizing the CAL by lending at the risk-free rate

C. Identifying the optimal risky portfolio; constructing a complete portfolio from T-bills and the optimal risky portfolio based on the investor's degree of risk aversion

26. According to the CAPM which of the following is not a true statement regarding the market portfolio. a. All securities in the market portfolio are held in proportion to their market values b. It includes all risky assets in the world, including human capital C. It is always the minimum variance portfolio on the efficient frontier d. It lies on the efficient frontier

C. It is always the minimum variance portfolio on the efficient frontier

22. You put half of your money in a stock portfolio that has an expected return of 14% and a standard deviation of 24%. You put the rest of you money in a risky bond portfolio that has an expected return of 6% and a standard deviation of 12%. The stock and bond portfolio have a correlation 0.55. The standard deviation of the resulting portfolio will be _________________. a. More than 18% but less than 24% b. Equal to 18% c. Less than 18% d. Zero

C. Less than 18%

During the 1985-2010 period the Sharpe ratio was lowest for which of the following asset classes?

C. Long-term U.S. Treasury bonds

13. Beta is a measure of __________. a. Firm specific risk b. Diversifiable risk c. Market risk d. Unique risk

C. Market risk

56. Diversification can reduce or eliminate __________ risk. a. All b. Systematic c. Non-systematic d. Only an insignificant

C. Non-systematic

7. An investor's degree of risk aversion will determine his or her _______. a. Optimal risky portfolio b. Risk-free rate c. Optimal mix of the risk-free asset and optimal risky asset d. Capital allocation line

C. Optimal mix of the risk-free asset and optimal risky asset

17. According to the capital asset pricing model, a security with a __________. a. Negative alpha is considered a good buy b. Positive alpha is considered overpriced C. Positive alpha is considered underpriced d. Zero alpha is considered a good buy

C. Positive alpha is considered underpriced

92. You hold a subordinated debenture in a firm. In the event of bankruptcy you will be paid off before which one of the following? A. Mortgage bonds B. Senior debentures C. Preferred stock D. Equipment obligation bonds

C. Preferred stock

When bonds sell above par, what is the relationship of price sensitivity to rising interest rates? A. Price volatility increases at an increasing rate B. Price volatility increases at a decreasing rate C. Price volatility decreases at a decreasing rate D. Price volatility decreases at an increasing rate

C. Price volatility decreases at a decreasing rate

55. The most significant conceptual difference between the arbitrage pricing theory (APT) and the capital asset pricing model (CAPM) is that the CAPM ______________. a. Places less emphasis on market risk b. Recognizes multiple unsystematic risk factors C. Recognizes only one systematic risk factor d. Recognizes multiple systematic risk factors

C. Recognizes only one systematic risk factor

An attribution analysis will not likely contain which of the following components?

C. Risk-free returns

62. The expected return on the market portfolio is 15%. The risk-free rate is 8%. The expected return on SDA Corp. common stock is 16%. The beta of SDA Corp. common stock is 1.25. Within the context of the capital asset pricing model, __________. a. SDA Corp. stock is underpriced b. SDA Corp. stock is fairly priced C. SDA Corp. stock's alpha is -0.75% d. SDA Corp. stock alpha is 0.75%

C. SDA Corp. stock's alpha is -0.75%

8. Inflation-indexed Treasury securities are commonly called ____. A. PIKs B. CARs C. TIPS D. STRIPS

C. TIPS

61. Which of the following provides the best example of a systematic risk event? a. A strike by union workers hurts a firm's quarterly earnings b. Mad Cow disease in Montana hurts local ranchers and buyers of beef c. The Federal Reserve increases interest rates 50 basis points d. A senior executive at a firm embezzles $10 million and escapes to South America

C. The Federal Reserve increases interest rates 50 basis points

10. A Japanese firm issued and sold a pound denominated bond in the United Kingdom. A U.S. firm issued bonds denominated in dollars but sold the bonds in Japan. Which one of the following statements is correct? A. Both bonds are examples of Eurobonds. B. The Japanese bond is a Eurobond and the U.S. bond is termed a foreign bond. C. The U.S. bond is a Eurobond and the Japanese bond is termed a foreign bond. D. Neither bond is a Eurobond.

C. The U.S. bond is a Eurobond and the Japanese bond is termed a foreign bond.

35. An important characteristic of market equilibrium is ________________. a. The presence of many opportunities for creating zero-investment portfolios b. All investors exhibit the same degree of risk aversion C. The absence of arbitrage opportunities d. The a lack of liquidity in the market

C. The absence of arbitrage opportunities

Which of the following would tend to reduce a firm's P/E ratio? A. The firm significantly decreases financial leverage B. The firm increases return on equity for the long term C. The level of inflation is expected to increase to double-digit levels D. The rate of return on Treasury bills decreases E. None of the above

C. The level of inflation is expected to increase to double-digit levels

72. Suppose market interest rates decline by 100 basis points (i.e., 1%). The effect of this decline would be: A. The price of Wildwood bond would decline by more than the Asbury bond. B. The price of Wildwood bond would decline by less than the Asbury bond. C. The price of Wildwood bond would increase by more than the Asbury bond. D. The price of Wildwood bond would increase by less than the Asbury bond.

C. The price of Wildwood bond would increase by more than the Asbury bond.

12. The variance of a portfolio of risky securities is __________. a. The sum of the securities' covariances b. The sum of the securities' variances c. The weighted sum of the securities' covariances d. The weighted sum of the securities' variances

C. The weighted sum of the securities' covariances

3. Many current and retired Enron Corp. employees had their 401k retirement accounts wiped out when Enron collapsed because ____. a. They had to pay huge fines for obstruction of justice b. They had purchased fines for obstruction of justice c. Their 401k accounts were not well diversified d. None of the above

C. Their 401k accounts were not well diversified

Consider the Sharpe and Treynor performance measures. When a pension fund is large and well diversified in total and it has many managers, the __________ measure is better for evaluating individual managers while the __________ measure is better for evaluating the manager of a small fund with only one manager responsible for all investments, which may not be fully diversified.

C. Treynor; Sharpe

The historical yield spread between the AA bond and the AAA bond has been 25 basis points. Currently the spread is only 9 basis points. If you believe the spread will soon return to its historical levels you should ________________________. A. buy the AA and short the AAA B. buy both the AA and the AAA C. buy the AAA and short the AA D. short both the AA and the AAA

C. buy the AAA and short the AA

93. If you are holding a premium bond you must expect a _______ each year until maturity. If you are holding a discount bond you must expect a _______ each year until maturity. A. capital gain; capital loss B. capital gain; capital gain C. capital loss; capital gain D. capital loss; capital loss

C. capital loss; capital gain

GAAP allows A. no leeway to manage earnings. B. minimal leeway to manage earnings. C. considerable leeway to manage earnings. D. earnings management if it is beneficial in increasing stock price. E. none of the above.

C. considerable leeway to manage earnings.

Low P/E ratios tend to indicate that a company will _______, ceteris paribus. A. grow quickly B. grow at the same speed as the average company C. grow slowly D. P/E ratios are unrelated to growth E. none of the above

C. grow slowly

The dividend discount model A. ignores capital gains. B. incorporates the after-tax value of capital gains. C. includes capital gains implicitly. D. restricts capital gains to a minimum. E. none of the above.

C. includes capital gains implicitly.

You have an investment horizon of 6 years. You choose to hold a bond with a duration of 10 years. Your realized rate of return will be larger than the promised yield on the bond if ___________________. A. interest rates increase B. interest rates stay the same C. interest rates fall D. one can't tell with the information given

C. interest rates fall

A bank has an average duration of its liabilities equal to 2 years. The bank's average duration of its assets is 3.5 years. The bank's market value of equity is at risk if _______________________. A. interest rates fall B. credit spreads fall C. interest rates rise D. the price of all fixed income securities rises

C. interest rates rise

. The ______ is a common term for the market consensus value of the required return on a stock. A. dividend payout ratio B. intrinsic value C. market capitalization rate D. plowback rate E. none of the above

C. market capitalization rate

Banks and other financial institutions can best manage interest rate risk by _____________. A. maximizing the duration of assets and minimizing the duration of liabilities B. minimizing the duration of assets and maximizing the duration of liabilities C. matching the durations of their assets and liabilities D. matching the maturities of their assets and liabilities

C. matching the durations of their assets and liabilities

Consider the theory of active portfolio management. Stocks A and B have the same beta and the same positive alpha. Stock A has higher nonsystematic risk than stock B. You should want __________ in your active portfolio.

C. more of stock B than stock A

Target date immunization would primarily be of interest to _________. A. banks B. mutual funds C. pension funds D. individual investors

C. pension funds

For a market timer, the __________ will be higher when RM is higher

C. portfolio's beta and slope of the characteristic line

Since 1955, Treasury bond yields and earnings yields on stocks were _______. A. identical B. negatively correlated C. positively correlated D. uncorrelated

C. positively correlated

Duration is a concept that is useful in assessing a bond's _________. A. credit risk B. liquidity risk C. price volatility D. convexity risk

C. price volatility

17. A __________ bond is a bond where the bondholder has the right to cash in the bond before maturity at a specific price after a specific date. A. callable B. coupon C. puttable D. treasury

C. puttable

36. A bond swap made in response to forecasts of interest rate changes is called ______. A. a substitution swap B. an intermarket spread swap C. rate anticipation swap D. pure yield pickup swap

C. rate anticipation swap

In the dividend discount model, _______ which of the following are not incorporated into the discount rate? A. real risk-free rate B. risk premium for stocks C. return on assets D. expected inflation rate E. none of the above

C. return on assets

4. A mortgage bond is _______. A. secured by other securities held by the firm B. secured by equipment owned by the firm C. secured by property owned by the firm D. unsecured

C. secured by property owned by the firm

An increase in a bond's yield to maturity results in a price decline that is ________ the price increase resulting from a decrease in yield of equal magnitude. A. greater than B. equivalent to C. smaller than D. The answer is indeterminate

C. smaller than

If a firm has a required rate of return equal to the ROE A. the firm can increase market price and P/E by retaining more earnings. B. the firm can increase market price and P/E by increasing the growth rate. C. the amount of earnings retained by the firm does not affect market price or the P/E. D. A and B. E. none of the above.

C. the amount of earnings retained by the firm does not affect market price or the P/E.

A fund has excess performance of 1.5%. In looking at the fund's investment breakdown, you see that the fund overweighted equities relative to the benchmark and that the average return on the fund's equity portfolio was slightly lower than the equity benchmark return. The excess performance for this fund is probably due to _______________

C. the asset allocation decision

One of the problems with attempting to forecast stock market values is that A. there are no variables that seem to predict market return. B. the earnings multiplier approach can only be used at the firm level. C. the level of uncertainty surrounding the forecast will always be quite high. D. dividend payout ratios are highly variable. E. none of the above.

C. the level of uncertainty surrounding the forecast will always be quite high.

The duration of a portfolio of bonds can be calculated as _______________. A. the coupon weighted average of the durations of the individual bonds in the portfolio B. the yield weighted average of the durations of the individual bonds in the portfolio C. the value weighed average of the durations of the individual bonds in the portfolio D. averages of the durations of the longest and shortest duration bonds in the portfolio

C. the value weighed average of the durations of the individual bonds in the portfolio

Call options on IBM listed stock options are A. issued by IBM Corporation. B. created by investors. C. traded on various exchanges. D. A and C. E. B and C.

B (C = 103 - 100/(1.05) + 7.50; C = $15.26)

Consider a one-year maturity call option and a one-year put option on the same stock, both with striking price $100. If the risk-free rate is 5%, the stock price is $103, and the put sells for $7.50, what should be the price of the call? A. $17.50 B. $15.26 C. $10.36 D. $12.26 E. none of the above.

C (C = 48 - 45/(1.04) + 1.50; C = $6.23.)

Consider a one-year maturity call option and a one-year put option on the same stock, both with striking price $45. If the risk-free rate is 4%, the stock price is $48, and the put sells for $1.50, what should be the price of the call? A. $4.38 B. $5.60 C. $6.23 D. $12.26 E. none of the above.

E. determine how a corporation regulates itself.

Corporate bylaws: A. must be amended should a firm decide to increase the number of shares authorized. B. cannot be amended once adopted. C. define the name by which the firm will operate. D. describe the intended life and purpose of the organization. E. determine how a corporation regulates itself.

A firm increases its dividend plowback ratio. All else equal, you know that _____________. A. earnings growth will increase and the stock's P/E will increase B. earnings growth will increase and the stock's P/E will decrease C. earnings growth will decrease and the stock's P/E will increase D. earnings growth will increase and the stock's P/E may or may not increase

A firm's earnings per share increased from $10 to $12, its dividends increased from $4 to $4.40, and its share price increased from $80 to $100. Given this information, it follows that _________. A. the required rate of return increased B. the stock experienced a drop in its P/E ratio C. both earnings and share price increased by 20% D. the company had a decrease in its dividend payout ratio

Each of two stocks, A and B, is expected to pay a dividend of $7 in the upcoming year. The expected growth rate of dividends is 6% for both stocks. You require a return of 10% on stock A and a return of 12% on stock B. Using the constant-growth DDM, the intrinsic value of stock A _________. A. will be the same as the intrinsic value of stock B B. will be less than the intrinsic value of stock B C. The answer cannot be determined from the information given. D. will be higher than the intrinsic value of stock B

Lifecycle Motorcycle Company is expected to pay a dividend in year 1 of $2, a dividend in year 2 of $3, and a dividend in year 3 of $4. After year 3, dividends are expected to grow at the rate of 7% per year. An appropriate required return for the stock is 12%. Using the multistage DDM, the stock should be worth __________ today. A. $65.13 B. $85.60 C. $63.80 D. $67.95

Suppose that in 2012 the expected dividends of the stocks in a broad market index equaled $240 million when the discount rate was 8% and the expected growth rate of the dividends equaled 6%. Using the constant-growth formula for valuation, if interest rates increase to 9%, the value of the market will change by _____. A. -20% B. -10% C. -25% D. -33%

The accounting measure of a firm's equity value generated by applying accounting principles to asset and liability acquisitions is called ________. A. market value B. Tobin's q C. liquidation value D. book value

Todd Mountain Development Corporation is expected to pay a dividend of $2.50 in the upcoming year. Dividends are expected to grow at the rate of 8% per year. The risk-free rate of return is 5%, and the expected return on the market portfolio is 12%. The stock of Todd Mountain Development Corporation has a beta of .75. Using the CAPM, the return you should require on the stock is _________. A. 7.25% B. 21% C. 14.75% D. 10.25%

Which of the following valuation measures is often used to compare firms that have no earnings? incorrect A. Price-to-book ratio B. P/E ratio C. Price-to-cash-flow ratio D. Price-to-sales ratio

The market capitalization rate on the stock of Aberdeen Wholesale Company is 10%. Its expected ROE is 12%, and its expected EPS is $5. If the firm's plowback ratio is 60%, its P/E ratio will be _________. A. 16.67 B. 7.14 C. 22.22 D. 14.29

D Dividend payout ratio = 1 - .46 = .4 Expected dividend = .4 × $5 = $2 Growth rate = .6 × 12% = 7.2% Value = $2/(.1 - .072) = $71.43 P/E = $71.43/$5 = 14.29

The market capitalization rate on the stock of Aberdeen Wholesale Company is 10%. Its expected ROE is 12%, and its expected EPS is $5. If the firm's plowback ratio is 50%, its P/E ratio will be _________. A. 8.33 B. 24.15 C. 19.23 D. 12.5

D Dividend payout ratio = 1 - .5 = .5 Expected dividend = .5 × $5 = $2.50 Growth rate = .5 × 12% = 6% Value = $2.50/(.10 - .06) = $62.50 P/E = $62.50/$5 = 12.5

D EPS = $75,000,000/20,000,000 = $3.75 P/E = $54.75/$3.75 = 14.6 g = .65 × 15% = .0975 = 9.75% PEG = 14.6/9.75 = 1.5

Eagle Brand Arrowheads has expected earnings of $1.25 per share and a market capitalization rate of 12%. Earnings are expected to grow at 5% per year indefinitely. The firm has a 40% plowback ratio. By how much does the firm's ROE exceed the market capitalization rate? A. 1.5% B. 1% C. 2% D. .5%

D ROE = g/b = .05/.4 = 12.5%; k is given as 12%, so ROE - k = .5%

If a firm has a free cash flow equal to $50 million and that cash flow is expected to grow at 3% forever, what is the total firm value given a WACC of 9.5%? A $803.03 million B. $715.54 million C. $679.81 million D. $769.23 million

D Total value = 50/(.095 - .03) = 769.23

Next year's earnings are estimated to be $6. The company plans to reinvest 33% of its earnings at 12%. If the cost of equity is 8%, what is the present value of growth opportunities? A. $75 B. $6 C. $44.44 D. $24.50

D g = .33 × .12 = .0396 Value with growth = ($6 × .67)/(.08 - .0396) = $99.50 Value without growth = $6/.08 = $75 PVGO = $99.50 - 75 = $24.50

Cache Creek Manufacturing Company is expected to pay a dividend of $4.20 in the upcoming year. Dividends are expected to grow at the rate of 8% per year. The risk-free rate of return is 4%, and the expected return on the market portfolio is 14%. Investors use the CAPM to compute the market capitalization rate on the stock and use the constant-growth DDM to determine the intrinsic value of the stock. The stock is trading in the market today at $84. Using the constant-growth DDM and the CAPM, the beta of the stock is _________. A. 1.4 B. .5 C. .8 D. .9

D k = $4.20/$84 + .08 = .13 .13 = .04 + β(.14 - .04) β = .09/.10 = .9

Westsyde Tool Company is expected to pay a dividend of $1.50 in the upcoming year. The risk-free rate of return is 6%, and the expected return on the market portfolio is 14%. Analysts expect the price of Westsyde Tool Company shares to be $29 a year from now. The beta of Westsyde Tool Company's stock is 1.2. Using the CAPM, an appropriate required return on Westsyde Tool Company's stock is _________. A. 8% B. 16.8% C. 10.8% D. 15.6%

D k = .06 + 1.20(.14 − .06) = .156

Which of the following would not be considered a supply shock? A) a change in the price of imported oil B) frost damage to the orange crop C) a change in the level of education of the average worker D) an increase in the level of government spending

D) an increase in the level of government spending

Where Y = yield to maturity, the duration of a perpetuity would be _________. A. Y B. Y/(1 + Y) C. 1/Y D. (1 + Y)/Y

D. (1 + Y)/Y

58. In order to construct a riskless portfolio using two risky stocks, one would need to find two stocks with a correlation coefficient of _________. a. 1.0 b. 0.5 c. 0 d. -1.0

D. -1.0

45. A treasury bond due in one year has a yield of 6.3% while a treasury bond due in 5 years has a yield of 8.8%. A bond due in 5 years issued by High Country Marketing Corporation has a yield of 9.6% while a bond due in one year issued by High Country Marketing Corporation has a yield of 6.8%. The default risk premiums on the one-year and 5-year bonds issued by High Country Marketing Corp. are respectively __________ and _________. A. 0.4%, 0.3% B. 0.4%, 0.5% C. 0.5%, 0.5% D. 0.5%, 0.8%

D. 0.5%, 0.8%

84. Which of the following is the most likely reward to variability ratio for a capital allocation line that is optimal, assuming all ratios are generated from the same set of potential assets? a. 0.45 b. 0.56 c. 0.65 d. 0.69

D. 0.69

13. The market portfolio has a beta of __________. a. -1.0 b. 0 c. 0.5 D. 1.0

D. 1.0

37. The expected return on the optimal risky portfolio is __________. a. 17% b. 15% c. 18% d. 16%

D. 16%

6. Consider the CAPM. The risk-free rate is 6% and the expected return on the market is 18%. What is the expected return on a stock with a beta of 1.3? a. 6% b. 15.6% c. 18% D. 21.6%

D. 21.6%

43. Semitool Corp has an expected excess return of 5% for next year. However for every unexpected 1% change in the market, Semitool's return responds by a factor of 1.3. Suppose it turns out the economy and the stock market do better than expected by 1.5% and Semitool's products experience more rapid growth than anticipated, pushing up the stock price by another 1%. Based on this information what was Semitool's actual excess return? a. 7.50% b. 6.95% c. 8.25% d. 7.95%

D. 7.95%

61. A corporate bond has a 10 year maturity and pays interest semiannually. The quoted coupon rate is 6% and the bond is priced at par. The bond is callable in 3 years at 110% of par. What is the bond's yield to call? A. 6.72% B. 9.17% C. 4.49% D. 8.98%

D. 8.98%

38. A coupon bond which pays interest of 4% annually, has a par value of $1,000, matures in 5 years, and is selling today at $785. The actual yield to maturity on this bond is _________. A. 7.2% B. 8.8% C. 9.1% D. 9.6%

D. 9.6%

All other things equal, which of the following has the shortest duration? A. A 30 year bond with a 10% coupon B. A 20 year bond with a 9% coupon C. A 20 year bond with a 7% coupon D. A 10 year zero coupon bond

D. A 10 year zero coupon bond

The Gordon model A. is a generalization of the perpetuity formula to cover the case of a growing perpetuity. B. is valid only when g is less than k. C. is valid only when k is less than g. D. A and B. E. A and C

D. A and B.

59. Which of the following set of conditions will result in a bond with the greatest price volatility? A. A high coupon and a short maturity. B. A high coupon and a long maturity. C. A low coupon and a short maturity. D. A low coupon and a long maturity.

D. A low coupon and a long maturity.

49. The SML is valid for _______________ and the CML is valid for _______________. a. Only individual assets; well diversified portfolios only b. Only well diversified portfolios; only individual assets c. Both well diversified portfolios and individual assets; both well diversified portfolios and individual assets D. Both well diversified portfolios and individual assets; well diversified portfolios only

D. Both well diversified portfolios and individual assets; well diversified portfolios only

79. There are two independent economic factors M1 and M2. The risk-free rate is 5% and all stocks have independent firm-specific components with a standard deviation of 25%. Portfolios A and B are well diversified. Given the data below which equation provides the correct pricing model? a. E(rP) = 5 + 1.12bP1 + 11.86bP2 b. E(rP) = 5 + 4.96bP1 + 13.26bP2 c. E(rP) = 5 + 3.23bP1 + 8.46bP2 D. E(rP) = 5 + 8.71bP1 + 9.68bP2

D. E(rP) = 5 + 8.71bP1 + 9.68bP2

57. According to Markowitz and other proponents of modern portfolio theory which of the following activities would not be expected to produce any benefits? a. Diversification b. Investing in Treasury bills c. Investing in stocks of utility companies d. Engaging in active portfolio management to enhance returns

D. Engaging in active portfolio management to enhance returns

34. Building a zero-investment portfolio will always involve _____________ a. An unknown mixture of short and long positions b. Only short positions c. Only long positions D. Equal investments in a short and a long position

D. Equal investments in a short and a long position

78. You are considering adding a new security to your portfolio. In order to decide whether you should add the security you need to know the security's I. expected return II. standard deviation III. correlation with your portfolio a. I only b. I and II only c. I and III only d. I, II and III

D. I, II and III

5. In a simple CAPM world which of the following statements is/are correct? I. All investors will choose to hold the market portfolio, which includes all risky assets in the world II. Investors' complete portfolio will vary depending on their risk aversion III. The return per unit of risk will be identical for all individual assets IV. The market portfolio will be on the efficient frontier and it will be the optimal risky portfolio a. I, II and III only b. II, III and IV only c. I, III and IV only D. I, II, III and IV

D. I, II, III and IV

87. You own $75,000 worth of stock, and you are worried the price may fall by year-end in 6 months. You are considering using either puts or calls to hedge this position. Given this, which of the following statements is (are) correct? I. One way to hedge your position would be to buy puts. II. One way to hedge your position would be to write calls. III. If major stock price declines are likely, hedging with puts is probably better than hedging with short calls. A. I only B. II only C. I and III only D. I, II, and III

D. I, II, and III

85. Since the APT does not specify which factors should be used to determine risk premiums, how should we decide which factors to investigate? a. Researchers should focus on factors that affect firms and industries b. Researchers should look for the most important unsystematic factors c. Researchers should concentrate on better defining the market portfolio D. Researchers should consider factors that correlate highly with uncertainty in consumption and investment opportunities

D. Researchers should consider factors that correlate highly with uncertainty in consumption and investment opportunities

54. According to the CAPM, investors are compensated for all but which of the following? a. Expected inflation b. Systematic risk c. Time value of money D. Residual risk

D. Residual risk

11. Empirical results estimated from historical data indicate that betas __________. a. Are always close to zero b. Are constant over time c. Of all securities are always between zero and one D. Seem to regress toward one over time

D. Seem to regress toward one over time

32. Which of the following possible provisions of a bond indenture is designed to ease the burden of principal repayment by spreading it out over several years? A. Callable feature B. Convertible feature C. Subordination clause D. Sinking fund

D. Sinking fund

19. Investors require a risk premium as compensation for bearing _______________. a. Unsystematic risk b. Alpha risk c. Residual risk D. Systematic risk

D. Systematic risk

60. One of the main problems with the arbitrage pricing theory is a. Its use of several factors instead of a single market index to explain the risk-return relationship b. The introduction of non-systematic risk as a key factor in the risk-return relationship c. That the APT requires an even larger number of unrealistic assumptions than the CAPM D. The model fails to identify the key macro-economic variables in the risk-return relationship

D. The model fails to identify the key macro-economic variables in the risk-return relationship

53. The expected return of the risky asset portfolio with minimum variance is __________. a. The market rate of return b. Zero c. The risk-free rate D. There is not enough information to answer this question

D. There is not enough information to answer this question

________ is equal to the total market value of the firm's common stock divided by (the replacement cost of the firm's assets less liabilities). A. Book value per share B. Liquidation value per share C. Market value per share D. Tobin's Q E. None of the above.

D. Tobin's Q

74. Investing in two assets with a correlation coefficient of -0.5 will reduce what kind of risk? a. Market risk b. Non-diversifiable risk c. Systematic risk d. Unique risk

D. Unique risk

18. Firm specific risk is also called __________ and ___________. a. Systematic risk, diversifiable risk b. Systematic risk, non-diversifiable risk c. Unique risk, non-diversifiable risk d. Unique risk, diversifiable risk

D. Unique risk, diversifiable risk

14. In a well diversified portfolio, __________ risk is negligible. a. Nondiversifiable b. Market c. Systematic D. Unsystematic

D. Unsystematic

53. The values of beta coefficients of securities are ___________. a. Always positive b. Always negative c. Always between positive 1 and negative 1 d. Usually positive, but are not restricted in any particular way

D. Usually positive, but are not restricted in any particular way

75. Investing in two assets with a correlation coefficient of 1.0 will reduce which kind of risk? a. Market risk b. Unique risk c. Unsystematic risk d. With a correlation of 1.0, no risk will be reduced

D. With a correlation of 1.0, no risk will be reduced

20. According to the capital asset pricing model, fairly priced securities have __________. a. Negative betas b. Positive alphas c. Positive betas D. Zero alphas

D. Zero alphas

The information ratio is equal to the stock's ____ divided by its ______.

D. alpha; diversifiable risk

A portfolio manager sells treasury bonds and buys corporate bonds because the spread between corporate and Treasury bond yields is higher than its historical average. This is an example of __________ swap. A. a pure yield pick up B. a rate anticipation C. a substitution D. an intermarket spread

D. an intermarket spread

24. Consider two bonds, A and B. Both bonds presently are selling at their par value of $1,000. Each pay interest of $120 annually. Bond A will mature in 5 years while bond B will mature in 6 years. If the yields to maturity on the two bonds change from 12% to 14%, _________. A. both bonds will increase in value but bond A will increase more than bond B B. both bonds will increase in value but bond B will increase more than bond A C. both bonds will decrease in value but bond A will decrease more than bond B D. both bonds will decrease in value but bond B will decrease more than bond A

D. both bonds will decrease in value but bond B will decrease more than bond A

The term alpha transport refers to _____.

D. establishing alpha and then using index products to hedge market exposure and gain exposure to particular sectors.

Many stock analysts assume that a mispriced stock will A. immediately return to its intrinsic value. B. return to its intrinsic value within a few days. C. never return to its intrinsic value. D. gradually approach its intrinsic value over several years. E. none of the above.

D. gradually approach its intrinsic value over several years.

If a firm follows a low-investment-rate plan (applies a low plowback ratio), its dividends will be _______ now and _______ in the future than a firm that follows a high-reinvestment-rate plan. A. higher, higher B. lower, lower C. lower, higher D. higher, lower E. It is not possible to tell.

D. higher, lower

8. A forecast of bond returns based largely on a prediction of the yield curve at the end of the investment horizon is called a _________. A. contingent immunization B. dedication strategy C. duration analysis D. horizon analysis

D. horizon analysis

15. According to the liquidity preference theory of the term structure of interest rates an increase in the yield on long term corporate bonds versus short term bonds could be due to _______. A. declining liquidity premiums B. expectation of an upcoming recession C. a decline in future inflation expectations D. increase in expected interest rate volatility

D. increase in expected interest rate volatility

In the Treynor-Black model, the contribution of individual security to the active portfolio should be based primarily on the stock's _________.

D. information ratio

The dollar-weighted return is the _________.

D. internal rate of return

28. The issuer of a/an ________ bond may choose to pay interest either in cash or in additional bonds. A. asset backed bonds B. TIPS C. catastrophe D. pay in kind

D. pay in kind

According to Peter Lynch, a rough rule of thumb for security analysis is that A. the growth rate should be equal to the plowback rate. B. the growth rate should be equal to the dividend payout rate. C. the growth rate should be low for emerging industries. D. the growth rate should be equal to the P/E ratio. E. none of the above.

D. the growth rate should be equal to the P/E ratio.

Which one of the following statements correctly describes the weights used in the Macaulay duration calculation? The weight in year t is equal to ____________. A. the dollar amount of the investment received in year t B. the percentage of the future value of the investment received in year t C. the present value of the dollar amount of the investment received in year t D. the percentage of the total present value of the investment received in year t

D. the percentage of the total present value of the investment received in year t

Earnings managements is A. when management makes changes in the operations of the firm to ensure that earning do not increase or decrease too rapidly. B. when management makes changes in the operations of the firm to ensure that earning do not increase too rapidly. C. when management makes changes in the operations of the firm to ensure that earning do not decrease too rapidly. D. the practice of using flexible accounting rules to improve the apparent profitability of the firm. E. none of the above.

D. the practice of using flexible accounting rules to improve the apparent profitability of the firm

Given its time to maturity the duration of a zero coupon bond is _________. A. higher when the discount rate is higher B. higher when the discount rate is lower C. lowest when the discount rate is equal to the risk free rate D. the same regardless of the discount rate

D. the same regardless of the discount rate

Derivative securities are also called contingent claims because A. their owners may choose whether or not to exercise them. B. a large contingent of investors holds them. C. the writers may choose whether or not to exercise them. D. their payoffs depend on the prices of other assets. E. contingency management is used in adding them to portfolios.

Spot-Futures Parity Theorem (cost-of-carry relationship)

Describes the theoretically correct relationship between spot and futures prices. (Violation of it gives rise to arbitrage opportunities)

M2 Measure

Developed by Modigliani and Modigliani Create an adjusted portfolio (P*)that has the same standard deviation as the market index. Because the market index and P* have the same standard deviation, their returns are comparable:

Sole Proprietorship

Disadvantages of ________: Limited to life of owner Equity capital limited to owner's personal wealth Unlimited liability Difficult to sell ownership interest

Corporation

Disadvantages of ________: Separation of ownership and management double taxation

Partnership

Disadvantages of ________: Unlimited liability Bond dissolves when one owner dies or wishes to sell Difficult to transfer ownership

Dollar-weighted return

Your investment has a 40% chance of earning a 15% rate of return, a 50% chance of earning a 10% rate of return, and a 10% chance of losing 3%. What is the standard deviation of this investment?

E(rp)= (.4)(.15)+(.5)(.10)+(.10)(-.03)= 10.7% σP= .4(.15-.107)^2 + .5(10-.107)^ 2 +.10(-.03-.107)^2 σP= 5.14%

Who popularized the dividend discount model, which is sometimes referred to by his name? A. Burton Malkiel B. Frederick Macaulay C. Harry Markowitz D. Marshall Blume E. Myron Gordon

E. Myron Gordon

Because the DDM requires multiple estimates, investors should A. carefully examine inputs to the model. B. perform sensitivity analysis on price estimates. C. not use this model without expert assistance. D. feel confident that DDM estimates are correct. E. both A and B.

E. both A and B.

You have an APR of 7.5% with continuous compounding. The EAR is _____.

EAR = (e^(.075)) - 1 = 7.79%

Clearinghouse

Established by exchanges to facilitate trading; may interpose itself as an intermediary between two traders.

The lower bounds for european options

European Calls: -european options can't be exercised before expiration (can't use arbitrage strategies) -the lower bound for a european call option is GREATER THAN its intrinsic value. European puts: -the lower bound for a european put option price is LESS THAN its intrinsic value. -can't be exercised before expiration -"in the money" european puts sell for less than their intrinsic value.

Suppose the risk-free return is 3%. The beta of a managed portfolio is 1.75, the alpha is 0%, and the average return is 16%. Based on Jensen's measure of portfolio performance, you would calculate the return on the market portfolio as:

Feedback: 0% = 16% - [3% + 1.75(x - 3%)]; x = 10.4%.

Suppose you own two stocks, A and B. In year 1, stock A earns a 2% return and stock B earns a 9% return. In year 2, stock A earns an 18% return and stock B earns an 11% return. __________ has the higher arithmetic average return.

Feedback: The two stocks have the same arithmetic average return. Stock A's average return is (2 + 18)/2 = 10%. Stock B's average return is (9 + 11)/2 = 10%.

Financial engineering A. is the custom designing of securities or portfolios with desired patterns of exposure to the price of the underlying security. B. primarily takes place for institutional investor. C. primarily takes places for the individual investor. D. A and B. E. A and C.

FV=PV(1+r)^t

Future Value General Formula

Convergence Property

Futures prices and spot prices must converge at the maturity of the futures contracts.

Hedge ratios for long calls are always __________. A. between -1 and 0 B. between 0 and 1 C. 1 D. greater than 1

How can you create a position involving a put, a call, and riskless lending that would have the same payoff structure as the stock at expiration? A. Buy the call, sell the put; lend the present value of $40 B. Sell the call, buy the put; lend the present value of $40 C. Buy the call, sell the put; borrow the present value of $40 D. Sell the call, buy the put; borrow the present value of $40

Working Capitol management

How will we manage the everyday financial activities of the firm?

In calculating the variance of a portfolio's returns, squaring the deviations from the mean results in: I. Preventing the sum of the deviations from always equaling zero II. Exaggerating the effects of large positive and negative deviations III. A number for which the unit is percentage of returns

I and II only

The yield to maturity on a bond is ________. I. above the coupon rate when the bond sells at a discount, and below the coupon rate when the bond sells at a premium II. the discount rate that will set the present value of the payments equal to the bond price III. equal to the true compound return on investment only if all interest payments received are reinvested at the yield to maturity

I, II, III

Rank the following from highest average historical return to lowest average historical return from 1926 to 2010. I. Small stocks II. Long-term bonds III. Large stocks IV. T-bills

I, III, II, IV

To earn a high rating from the bond rating agencies, a company would want to have _________. I. a low times interest earned ratio II. a low debt to equity ratio III. a high quick ratio

II and III only

If the Black-Scholes formula is solved to find the standard deviation consistent with the current market call premium, that standard deviation would be called the _______. A. variability B. volatility C. implied volatility D. deviance

If you combine a long stock position with buying an at the money put option the resulting net payoff profile will resemble the payoff profile of a _______. A. long call B. short call C. short put D. long put

If you combine a long stock position with selling an at the money call option the resulting net payoff profile will resemble the payoff profile of a _______. A. long call B. short call C. short put D. long put

If you know that a call option will be profitably exercised then the Black-Scholes model price will simplify to _______. A. S0 - X B. X - S0 C. S0 - PV(X) D. PV(X) - S0

If you wished to construct a riskless arbitrage to exploit the mispriced puts you should ____________. A. buy the call and sell the put B. write the call and buy the put C. write the call and buy the put and buy the stock and borrow the present value of the exercise price D. buy the call and buy the put and short the stock and lend the present value of the exercise price

In the Black-Scholes model as the stock's price increases the values of N(d1) and N(d2) will _______ for a call and _______ for a put option. A. increase; decrease B. increase; increase C. decrease; increase D. decrease; decrease

In the Black-Scholes model if an option is not likely to be exercised both N(d1) and N(d2) will be close to ______. If the option is definitely likely to be exercised N(d1) and N(d2) will be close to ______. A. 1; 0 B. 0; 1 C. -1; 1 D. 1: -1

Dollar-weighted returns

Internal rate of return considering the cash flow from or to investment Returns are weighted by the amount invested in each period:

Investor A bought a call option and Investor B bought a put option. All else equal if the interest rate increases the value of Investor A's position will ______ and the value of Investor B's position will _______. A. increase; increase B. increase; decrease C. decrease; increase D. decrease; decrease

Investor A bought a call option and Investor B bought a put option. All else equal if the underlying stock price volatility increases the value of Investor A's position will ______ and the value of Investor B's position will _______. A. increase; increase B. increase; decrease C. decrease; increase D. decrease; decrease

Investor A bought a call option that expires in 6 months. Investor B wrote a put option with a 9 month maturity. All else equal as the time to expiration approaches the value of Investor A's position will _______ and the value of Investor B's position will _______. A. increase; increase B. increase; decrease C. decrease; increase D. decrease; decrease

Which Measure is Appropriate?

It depends on investment assumptions If the portfolio represents the entire risky investment , then use the Sharpe measure. 2) If the portfolio is one of many combined into a larger investment fund, use the Jensen or the Treynor measure. The Treynor measure is appealing because it weighs excess returns against systematic risk.

we have seen that market timing has tremendous potential value. would it therefore be wise to shift resources to timing at the expense of security selection?

It is not necessarily wise to shift resources to timing at the expense of security selection. There is also tremendous potential value in security analysis. The decision as to whether to shift resources has to be made on the basis of the macro, compared to the micro, forecasting ability of the portfolio management team.

C. In today's dollars, Jeff's money is worth more than Tammy's.

Jeff is going to receive $10,000 five years from now. Tammy is going to receive $10,000 eight years from now. Which one of the following statements is correct if both Tammy and Jeff apply a 6 percent discount rate to these amounts? A. The present value of Tammy's and Jeff's money will be equal. B. The value of Jeff's money will be less than the value of Tammy's money 15 years from now. C. In today's dollars, Jeff's money is worth more than Tammy's. D. Ten years from now, the value of Jeff's money will be equal to the value of Tammy's money. E. Tammy's money is worth more than Jeff's money given the 6 percent discount rate.

Longer term American style options with maturities of up to three years are called __________. A. warrants B. LEAPS C. GICs D. CATs

Lookback options have payoffs that A. have payoffs that depend in part on the minimum or maximum price of the underlying asset during the life of the option. B. have payoffs that only depend on the minimum price of the underlying asset during the life of the option. C. have payoffs that only depend on the maximum price of the underlying asset during the life of the option. D. are known in advance. E. none of the above.

The price of a stock is $55 at the beginning of the year and $50 at the end of the year. If the stock paid a $3 dividend and inflation was 3%, what is the real holding-period return for the year?

Nominal return on stock: (50 + 3)/55 - 1 = −3.64% Real return: (1 + R) = (1 + r)(1 + i) 1 + r = (1 - .0364)/(1.03) = .935 R = .935 - 1 = -.0644

A security with normally distributed returns has an annual expected return of 18% and standard deviation of 23%. The probability of getting a return between -28% and 64% in any one year is _____.

Note that the expected return minus 2 standard deviations is 18% - (2 × 23%) = -28% and the expected return plus 2 standard deviations is 18% + (2 × 23%) = 64%. The probability of a return falling within ± 2 standard deviations is 95.44%.

Put Writer

ONe who has the obligation to buy stock at the option's strike price if the option is exercised.

27.0009?

On your thirteenth birthday, you received $1,000 which you invested at 6.5 percent interest, compounded annually. Your investment is now worth $5,476. How old are you today?

Call Writer

One who has the obligation to sell stock at the option's strike price if the option is exercised.

11.58%?

One year ago, you invested $2,500. Today it is worth $2,789.50. What rate of interest did you earn?

Evaluating Performance Evaluation

Performance evaluation has two key problems: Many observations are needed for significant results. Shifting parameters when portfolios are actively managed makes accurate performance evaluation all the more elusive.

Research suggests that the performance of the Black-Scholes option pricing model has __________________. A. improved in recent years B. remained about the same over time C. been deficient for stocks with high dividend payouts D. varied widely over the years since 1973

In the mean standard deviation graph, the line that connects the risk-free rate and the optimal risky portfolio, P, is called the _________.

S. capital allocation line

Attributing Performance to Components

Set up a 'Benchmark' or 'Bogey' portfolio: Select a benchmark index portfolio for each asset class. Choose weights based on market expectations. Choose a portfolio of securities within each class by security analysis.

6.8872%

Six years ago, Home Health Industries (HHI) adopted a plan to expand its services next year. At the time the plan was adopted, HHI set aside $125,000 in excess funds to be held for this purpose. As of today, that money has increased in value to $186,408. What rate of interest is the firm earning on these funds?

Some more "traditional" assets have option-like features; some of these instruments include A. callable bonds. B. convertible bonds. C. warrants. D. A and B. E. A, B, and C.

8.0315

Some time ago, Richard purchased five acres of land costing $123,400. Today, that land is valued at $189,700. How long has he owned this land if the price of land has been increasing at 5.5 percent per year?

Stakeholder

Someone other than a stockholder or creditor who potentially has a claim on the cash flows of the firm.

Protective Put

Strategy of buying a put option on a stock already owned. This strategy protects against a decline in value. -reduces the overall risk faced by an investor (conservative strategy). -provide "insurance" for the value of an asset or a stream of cash inflows.

Covered call

Strategy of selling a call option on stock already owned.

Performance Attribution

Superior performance is achieved by: overweighting assets in markets that perform well underweighting assets in poorly performing markets

conventional wisdom says that one should measure a managers performance over an entire market cycle. support? contradict?

Support: A manager could be a better performer in one type of circumstance than in another. For example, a manager who does no timing, but simply maintains a high beta, will do better in up markets and worse in down markets. Therefore, we should observe performance over an entire cycle. Also, to the extent that observing a manager over an entire cycle increases the number of observations, it would improve the reliability of the measurement. Contradict: If we adequately control for exposure to the market (i.e., adjust for beta), then market performance should not affect the relative performance of individual managers. It is therefore not necessary to wait for an entire market cycle to pass before evaluating a manager.

D (When an index option is exercised the writer of the option pays cash to the option holder. The amount of cash equals the difference between the exercise price of the option and the value of the index. In this case, you will receive 720 - 680 = 40 times the $100 multiplier, or $4,000. In other words, you are implicitly buying the index for 680 and selling it to the call writer for 720.)

Suppose that you purchased a call option on the S&P 100 index. The option has an exercise price of 680 and the index is now at 720. What will happen when you exercise the option? A. You will have to pay $680. B. You will receive $720. C. You will receive $680. D. You will receive $4,000. E. You will have to pay $4,000.

B (When an index option is exercised the writer of the option pays cash to the option holder. The amount of cash equals the difference between the exercise price of the option and the value of the index. In this case, you will receive 760 - 700 = 60 times the $100 multiplier, or $6,000. In other words, you are implicitly buying the index for 700 and selling it to the call writer for 760.)

Suppose that you purchased a call option on the S&P 100 index. The option has an exercise price of 700 and the index is now at 760. What will happen when you exercise the option? A. You will have to pay $6,000. B. You will receive $6,000. C. You will receive $700. D. You will receive $760. E. You will have to pay $7,000.

C ($500 + $5 = $505 :Breakeven. The price of the stock must increase to above $505 for the option holder to earn a profit.)

Suppose the price of a share of Google stock is $500. An April call option on Google stock has a premium of $5 and an exercise price of $500. Ignoring commissions, the holder of the call option will earn a profit if the price of the share A. increases to $504. B. decreases to $490. C. increases to $506. D. decreases to $496. E. none of the above.

Suppose you purchase a call and write a put on the same stock with the same exercise price and expiration. If prices are at equilibrium the value of this portfolio is ________. A. S0 - Xe-rt B. S0 - X C. S0 + Xe-rt D. S0 + X

C (-100 - 5 = -$105...+2+105 = $107...2 X 100=$200)

Suppose you purchase one IBM May 100 call contract at $5 and write one IBM May 105 call contract at $2. 82. The maximum potential profit of your strategy is A. $600. B. $500. C. $200. D. $300. E. $100

Spread

Taking a long position in a futures contract of one maturity and a short position in a contract of a different maturity, both on the same commodity.

We know that the geometrica average (time weighted return) on a risky investment is always lower than the corresponding arithmetic average. Can the IRR (dollar weighted return) similarly be ranked relative to these other two averages?

The IRR (i.e., the dollar-weighted return) can not be ranked relative to either the geometric average return (i.e., the time-weighted return) or the arithmetic average return. Under some conditions, the IRR is greater than each of the other two averages, and similarly, under other conditions, the IRR can also be less than each of the other averages. A number of scenarios can be developed to illustrate this conclusion. For example, consider a scenario where the rate of return each period consistently increases over several time periods. If the amount invested also increases each period, and then all of the proceeds are withdrawn at the end of several periods, the IRR is greater than either the geometric or the arithmetic average because more money is invested at the higher rates than at the lower rates. On the other hand, if withdrawals gradually reduce the amount invested as the rate of return increases, then the IRR is less than each of the other averages. (Similar scenarios are illustrated with numerical examples in the text, where the IRR is shown to be less than the geometric average, and in Concept Check 1, where the IRR is greater than the geometric average.)

The Option Clearing Corporation is owned by A. the Federal Reserve System. B. the exchanges on which stock options are traded. C. the major U.S. banks. D. the Federal Deposit Insurance Corporation. E. none of the above.

The Option Clearing Corporation is owned by _________. A. the exchanges on which stock options are traded B. the Federal Deposit Insurance Corporation C. the Federal Reserve system D. major U.S. banks

E. management greed and abuses.

The Sarbanes-Oxley Act of 2002 is a governmental response to: A. decreasing corporate profits. B. the terrorists attacks on 9/11/2001. C. a weakening economy. D. deregulation of the stock exchanges. E. management greed and abuses.

The __________ is the stock price minus exercise price, or the profit that could be attained by immediate exercise of an in-the-money call option. A. intrinsic value B. time value C. stated value D. discounted value

Option Writing

The act of selling an option (taking the seller's side of an option contract). -because option writing obligates the option writer, the option writer receives the price of the option today from the option buyer.

The common stock of the Avalon Corporation has been trading in a narrow range around $40 per share for months, and you believe it is going to stay in that range for the next three months. The price of a three-month put option with an exercise price of $40 is $3, and a call with the same expiration date and exercise price sells for $4. What would be a simple options strategy using a put and a call to exploit your conviction about the stock price's future movement? A. Sell a call B. Purchase a put C. Sell a straddle D. Buy a straddle

The current market price of a share of AT&T stock is $50. If a call option on this stock has a strike price of $45, the call A. is out of the money. B. is in the money. C. sells for a higher price than if the market price of AT&T stock is $40. D. A and C. E. B and C.

The delta of a put option on a stock is always __________. A. between zero and -1 B. between -1 and 1 C. positive but less than 1 D. greater than 1

The delta of an option is __________. A. the change in the dollar value of an option for a dollar change in the price of the underlying asset B. the change in the dollar value of the underlying asset for a dollar change in the call price C. the percentage change in the value of an option for a one percent change in the value of the underlying asset D. the percentage change in the value of the underlying asset for a one percent change in the value of the call

The divergence between an option's intrinsic value and its market value is usually greatest when ___________________. A. the option is deep in the money B. the option is approximately at the money C. the option is far out of the money D. time to expiration is very low

The fact that American put values may not equal the price implied by put call parity is attributable to the possibility of what event? A. Changes in the dividend B. Early exercise C. Interest rate declines D. Interest rate rises

The hedge ratio is often called the option's _______. A. delta B. gamma C. theta D. beta

Information Ratio

The information ratio divides the alpha of the portfolio by the nonsystematic risk. Nonsystematic risk could, in theory, be eliminated by diversification.

Discount

The interest rate used to calculate the present value of future cash flows is called the _____ rate.

The intrinsic value of a call option is equal to _______________. A. the stock price minus the exercise price B. the exercise minus the stock price C. the stock price minus the exercise price plus any expected dividends D. the exercise price minus the stock price plus any expected dividends

The intrinsic value of an at-the-money call option is equal to A. the call premium. B. zero. C. the stock price plus the exercise price. D. the striking price. E. none of the above.

The intrinsic value of an at-the-money put option is equal to A. the stock price minus the exercise price. B. the put premium. C. zero. D. the exercise price minus the stock price. E. none of the above.

The intrinsic value of an in-of-the-money call option is equal to A. the call premium. B. zero. C. the stock price minus the exercise price. D. the striking price. E. none of the above.

The intrinsic value of an in-the-money put option is equal to A. the stock price minus the exercise price. B. the put premium. C. zero. D. the exercise price minus the stock price. E. none of the above.

The intrinsic value of an out of the money call option ___________. A. is negative B. is positive C. is zero D. can not be determined

The intrinsic value of an out-of-the-money call option is equal to A. the call premium. B. zero. C. the stock price minus the exercise price. D. the striking price. E. none of the above.

The intrinsic value of an out-of-the-money put option is equal to A. the stock price minus the exercise price. B. the put premium. C. zero. D. the exercise price minus the stock price. E. none of the above.

The lower bound on the market price of a convertible bond is A. its straight bond value. B. its crooked bond value. C. its conversion value. D. A and C. E. none of the above

The maximum loss a buyer of a stock call option can suffer is equal to A. the striking price minus the stock price. B. the stock price minus the value of the call. C. the call premium. D. the stock price. E. none of the above.

The maximum loss a buyer of a stock call option can suffer is the _________. A. call premium B. stock price C. stock price minus the value of the call D. strike price minus the stock price

E (For options trading below $, the minimum tick size is 1/16 = $0.0625. For all other options on the CBOE the minimum tick size is 1/8 = $0.125.)

The minimum tick size for a CBOE option selling above $3 is ________. A. $1.00 B. $0.375 C. $0.50 D. $0.25 E. $0.125

The potential loss for a writer of a naked call option on a stock is A. limited B. unlimited C. larger the lower the stock price. D. equal to the call premium. E. none of the above.

The practice of using options or dynamic hedging strategies to provide protection against investment losses while maintaining upside potential is called _________. A. trading on gamma B. index optioning C. portfolio insurance D. index arbitrage

The price of a stock put option is __________ correlated with the stock price and __________ correlated with the exercise price. A. negatively; negatively B. negatively; positively C. positively; negatively D. positively; positively

premium

The price that the writer of a call OR put option receives to sell the option is called the _______

The price that the writer of a put option receives for the underlying asset if the option is exercised is called the A. strike price B. exercise price C. execution price D. A or B E. none of the above

Adjusting Returns for Risk

The simplest and most popular way to adjust returns for risk is to compare the portfolio's return with the returns on a comparison universe. The comparison universe is a benchmark composed of a group of funds or portfolios with similar risk characteristics, such as growth stock funds or high-yield bond funds.

Does the use of universes of managers with similar investment styles to evaluate relative investment performance overcome the statistical problems related with instability of beta or total variability?

The use of universes of managers to evaluate relative investment performance does, to some extent, overcome statistical problems, as long as those manager groups can be made sufficiently homogeneous with respect to style.

The value of a listed call option on a stock is lower when _______________. I. the exercise price is higher II. the contract approaches maturity III. the stock decreases in value IV. a stock split occurs A. II, III and IV only B. I, III and IV only C. I, II and III only D. I, II, III and IV

The value of a listed put option on a stock is lower when _______________. I. the exercise price is higher II. the contract approaches maturity III. the stock decreases in value IV. a stock split occurs A. II only B. II and IV only C. I, II and III only D. I, II, III and IV

The value of a put option increases with all of the following except ___________. A. stock price B. time to maturity C. volatility D. dividend yield

The value of a stock put option is positively related to A. the time to expiration. B. the striking price. C. the stock price. D. all of the above. E. A and B.

The value of a stock put option is positively related to the following factors except A. the time to expiration. B. the striking price. C. the stock price. D. all of the above. E. none of the above.

The writer of a put option _______________. A. agrees to sell shares at a set price if the option holder desires B. agrees to buy shares at a set price if the option holder desires C. has the right to buy shares at a set price D. has the right to sell shares at a set price

11.4856%

Thirty years ago, your father invested $11,000. Today, that investment is worth $287,047. What is the average annual rate of return your father earned on his investment?

To adjust for stock splits A. the exercise price of the option is reduced by the factor of the split and the number of option held is increased by that factor. B. the exercise price of the option is increased by the factor of the split and the number of option held is reduced by that factor. C. the exercise price of the option is reduced by the factor of the split and the number of option held is reduced by that factor. D. the exercise price of the option is increased by the factor of the split and the number of option held is increased by that factor. E. none of the above

D (P = 10 - 53 + 58/(1.05.5); P = 11.97)

Top Flight Stock currently sells for $53. A one-year call option with strike price of $58 sells for $10, and the risk free interest rate is 5.5%. What is the price of a one-year put with strike price of $58? A. $10.00 B. $12.12 C. $16.00 D. $11.97 E. $14.13

I, II, & III

Tracie deposits $5,000 into an account that pays 3 percent interest compounded annually. Chris deposits $5,000 into an account that pays 3 percent simple interest. Both deposits were made this morning. Which of the following statements are true concerning these two accounts? I. At the end of one year, both Tracie and Chris will have the same amount in their accounts. II. At the end of five years, Tracie will have more money in her account than Chris has in his. III. Chris will never earn any interest on interest. IV. All else equal, Chris made the better investment.

Warrants differ from listed options in that ________. I. exercise of warrants results in dilution of a firm's earnings per share II. when warrants are exercised new shares of stock must be created III. warrant exercise result in cash flows to the firm whereas exercise of listed options does not A. I only B. I and II only C. II and III only D. I, II and III

Performance Measurement with Changing Portfolio Composition

We need a very long observation period to measure performance with any precision, even if the return distribution is stable with a constant mean and variance.

What aspect of the time value of money does the factor of e represent in the Black-Scholes option value formula? A. Annual compounding B. Compounding at the expiration time frame C. Continuous compounding D. Daily compounding

What happens to an option if the underlying stock has a 2-for-1 split? A. There is no change in either the exercise price or in the number of options held. B. The exercise price will adjust through normal market movements; the number of options will remain the same. C. The exercise price would become half of what it was and the number of options held would double. D. The exercise price would double and the number of options held would double. E. There is no standard rule - each corporation has its own policy.

What happens to an option if the underlying stock has a 3-for-1 split? A. There is no change in either the exercise price or in the number of options held. B. The exercise price will adjust through normal market movements; the number of options will remain the same. C. The exercise price would become one third of what it was and the number of options held would triple. D. The exercise price would triple and the number of options held would triple. E. There is no standard rule - each corporation has its own policy.

$10,347.19

What is the future value of $3,497 invested for 15 years at 7.5 percent compounded annually?

$18,644.03

What is the present value of $36,800 to be received 6 years from today if the discount rate is 12 percent?

Capitol Budgeting

What long term investments should the firm take on?

What strategy could be considered insurance for an investment in a portfolio of stocks? A. Covered call B. Protective put C. Short put D. Straddle

When issued most convertible bonds are issued _____________. A. deep in the money B. deep out of the money C. slightly out of the money D. slightly in the money

Performance Measurement for Hedge Funds

When the hedge fund is optimally combined with the baseline portfolio, the improvement in the Sharpe measure will be determined by its information ratio:

When the returns of an option and stock are perfectly correlated as in a two state binomial option model, the hedge ratio must be equal to ____________. A. the ratio of the range of the option outcomes to the range of the stock outcomes B. the ratio of the range of the stock outcomes to the range of the option outcomes C. the ratio of the standard deviation of the option returns to the standard deviation of the stock returns D. the ratio of the standard deviation of the stock returns to the standard deviation of the option returns

Capitol Structure System

Where will we get the long-term financing to pay for the investment?

Which of the following factors affect the price of a stock option A. the risk-free rate. B. the riskiness of the stock. C. the time to expiration. D. the expected rate of return on the stock. E. A, B, and C.

I, II, III, and IV

Which of the following help convince managers to work in the best interest of the stockholders? Assume there are no golden parachutes. I. compensation based on the value of the stock II. stock option plans III. threat of a company takeover IV. threat of a proxy fight

Which of the following is a true statement? A. The actual value of a call option is greater than its intrinsic value prior to expiration B. The intrinsic value of a call option is always greater than its time value prior to expiration C. The intrinsic value of a call option is always positive prior to expiration D. The intrinsic value of a call option is greater than its actual value prior to expiration

I and III

Which of the following parties are considered stakeholders of a firm? I. employee II. long-term creditor III. government IV. common stockholder

Which of the following strategies makes a profit if the stock price declines and loses money when the stock price increases? A. Long call and short put B. Long call and long put C. Short call and short put D. Short call and long put

Which of the following strategies makes a profit if the stock price stays stable? A. Long call and short put B. Long call and long put C. Short call and short put D. Short call and long put

E. increase in the market value per share

Which one of the following best illustrates that the management of a firm is adhering to the goal of financial management? A. increase in the amount of the quarterly dividend B. decrease in the per unit production costs C. increase in the number of shares outstanding D. decrease in the net working capital E. increase in the market value per share

A. proxy

Which one of the following grants an individual the right to vote on behalf of a shareholder? A. proxy B. by-laws C. indenture agreement D. stock option E. stock audit

B. deciding whether or not to purchase a new machine for the production line

Which one of the following is a capital budgeting decision? A. determining how many shares of stock to issue B. deciding whether or not to purchase a new machine for the production line C. deciding how to refinance a debt issue that is maturing D. determining how much inventory to keep on hand E. determining how much money should be kept in the checking account

Which one of the following is a correct statement? A. Exercise of warrants results in more outstanding shares of stock, while exercise of listed call options does not. B. A convertible bond consists of a straight bond plus a specified number of detachable warrants. C. Call options always have an initial maturity greater than one year while warrants have an initial maturity less than one year. D. Call options may be convertible into the stock while warrants are not convertible into the stock.

D. hiring outside accountants to audit the company's financial statements

Which one of the following is an agency cost? A. accepting an investment opportunity that will add value to the firm B. increasing the quarterly dividend C. investing in a new project that creates firm value D. hiring outside accountants to audit the company's financial statements E. closing a division of the firm that is operating at a loss

Which one of the following is the ticker symbol for the CBOE option contract on the S&P100 index? A. SPX B. DJX C. CME D. OEX

E. capital structure

Which one of the following terms is defined as the mixture of a firm's debt and equity financing? A. working capital management B. cash management C. cost analysis D. capital budgeting E. capital structure

Which one of the following will increase the value of a put option? A. A decrease in the exercise price B. A decrease in time to expiration of the put C. An increase in the volatility of the underlying stock D. An increase in stock price

Which one of the statements about margin requirements on option positions is not correct? A. The margin required will be higher if the option is in the money. B. If the required margin exceeds the posted margin the option writer will receive a margin call. C. A buyer of a put or call option does not have to post margin. D. Even if the writer of a call option owns the stock the writer will have to meet the margin requirement in cash.

Which strategy benefits from upside price movement and has some protection should the price of the security fall? A. Bull spread B. Long put C. Short call D. Straddle

You are considering purchasing a call option with a strike price of $35. The price of the underlying stock is currently $27. Without any further information, you would expect the hedge ratio for this option to be _______________. A. negative and near 0 B. negative and near -1 C. positive and near 0 D. positive and near 1

You are convinced that a stock's price will move by at least 15% over the next three months. You are not sure which way the price will move, but you believe that the results of a patent hearing are definitely going to have a major effect on the stock price. You are somewhat more bullish than bearish however. Which one of the following options strategies best fits this scenario? A. Buy a strip B. Buy a strap C. Buy a straddle D. Write a straddle

You buy a call option and a put option on General Electric. Both the call option and the put option have the same exercise price and expiration date. This strategy is called a _________. A. time spread B. long straddle C. short straddle D. money spread

You buy a call option on Merritt Corp. with an exercise price of $50 and an expiration date in July and write a call option on Merritt Corp. with an exercise price of $55 with an expiration date in July. This is called a ________. A. time spread B. long straddle C. short straddle D. money spread

You buy a call option on Summit Corp. with an exercise price of $40 and an expiration date in September and write a call option on Summit Corp. with an exercise price of $40 and an expiration date in October. This strategy is called a _________. A. time spread B. long straddle C. short straddle D. money spread

You buy one Xerox June 60 call contract and one June 60 put contract. The call premium is $5 and the put premium is $3. Your strategy is called A. a short straddle. B. a long straddle. C. a horizontal straddle. D. a covered call. E. none of the above.

You calculate the Black-Scholes value of a call option as $3.50 for a stock that does not pay dividends but the actual call price is $3.75. The most likely explanation for the discrepancy is that either the option is _________ or the volatility you input into the model is too _________. A. overvalued and should be written; low B. undervalued and should be written; low C. overvalued and should be purchased; high D. undervalued and should be purchased; high

You find the option prices for three June call options on the same stock. The 95 call has an implied volatility of 25%, the 100 call has an implied volatility of 25% and the 105 call has an implied volatility of 30%. If you believe this represents a mis-pricing situation you may wish to ____________________________. A. buy the 105 call and write the 100 call B. buy the 105 call and write the 95 call C. buy either the 95 or the 100 call write the 105 call D. write the 105 call and write either the 95 or the 100 call

$307,965.40

You hope to buy your dream house 3 years from now. Today, your dream house costs $247,900. You expect housing prices to rise by an average of 7.5 percent per year over the next 3 years. How much will your dream house cost by the time you are ready to buy it?

You invest in the stock of Rayleigh Corp. and write a call option on Rayleigh Corp. This strategy is called a _________. A. covered call B. long straddle C. naked call D. money spread

You invest in the stock of Valleyview Corp. and purchase a put option on Valleyview Corp. This strategy is called a _________. A. long straddle B. naked put C. protective put D. short stroll

You own $75,000 worth of stock and you are worried the price may fall by year end in 6 months. You are considering either using puts or calls to hedge this position. Given this, which of the following statements is/are correct? I. One way to hedge your position would be to buy puts. II. One way to hedge your position would be to write calls. III. If major stock price declines are likely the hedging with puts is probably better than hedging with short calls. A. I only B. II only C. I and III only D. I, II and III

You own a stock portfolio worth $50,000. You are worried that stock prices may take a dip before you are ready to sell so you are considering purchasing either at the money or out of the money puts. If you decide to purchase the out of the money puts your maximum loss is __________ than if you buy at the money puts and your maximum gain is __________. A. greater; lower B. greater; greater C. lower; greater D. lower; lower

You purchase a call option on a stock. The profit at contract maturity of the option position is ___________ where X equals the option's strike price, ST is the stock price at contract expiration and C0 is the original purchase price of the option. A. Max(-C0, ST - X - C0) B. Min(-C0, ST - X - C0) C. Max(C0, ST - X + C0) D. Max(0, ST - X - C0)

C (+70+6= $76)

You purchase one IBM 70 call option for a premium of $6. Ignoring transaction costs, the break-even price of the position is A. $98 B. $64 C. $76 D. $70 E. none of the above

A (-$200 + $5,000 = $4,800 )

You purchase one September 50 PUT contract for a put premium of $2. What is the maximum profit that you could gain from this strategy? A. $4,800 B. $200 C. $5,000 D. $5,200 E. none of the above

B (If the call is exercised the gross profit is $51 - 45 = $6. The net profit is $6 - 3.45 = $2.55. The holding period return is $2.55/$3.45 = .739 (73.9%). If the call is not exercised, there is no gross profit and the investor loses the full amount of the premium. The return is ($0 - 3.45)/$3.45 = -1.00 (-100%).)

You purchased a call option for $3.45 seventeen days ago. The call has a strike price of $45 and the stock is now trading for $51. If you exercise the call today, what will be your holding period return? If you do not exercise the call today and it expires, what will be your holding period return? A. 173.9%, -100% B. 73.9%, -100% C. 57.5%, -173.9% D. 73.9%, -57.5% E. 100%, -100%

You write a put option on a stock. The profit at contract maturity of the option position is ___________ where X equals the option's strike price, ST is the stock price at contract expiration and P0 is the original premium of the put option. A. Max(P0, X - ST - P0) B. Min(-P0, X - ST - P0) C. Min(P0, ST - X + P0) D. Max(0, ST - X - P0)

A (+$70 - $5 = $65)

You write one JNJ February 70 put for a premium of $5. Ignoring transactions costs, what is the breakeven price of this position? A. $65 B. $75 C. $5 D. $70 E. none of the above

Corporation

_______ is a form of business that has a distinct legal entity composed of one or more individuals or entities.

Partnership

_______ is a form of business that is general and limited

Present Value

________ - "earlier money on a time line" The current value of future cash flows discounted at the appropriate discount rate.

maximize shareholder/ owner wealth

________ should be the goal of a corporation.

Interest Rate

________- "exchange rate" between earlier money and later money

Future Value

________- "later money on a time line" The amount an investment is worth after one or more periods.

15. A firm that has an ROE of 12% is considering cutting its dividend payout. The stockholders of the firm desire a dividend yield of 4% and a capital gain yield of 9%. Given this information, which of the following statements is (are) correct? I. All else equal, the firm's growth rate will accelerate after the payout change. II. All else equal, the firm's stock price will go up after the payout change. III. All else equal, the firm's P/E ratio will increase after the payout change. A. I only B. I and II only C. II and III only D. I, II, and III

22. You want to earn a return of 10% on each of two stocks, A and B. Each of the stocks is expected to pay a dividend of $4 in the upcoming year. The expected growth rate of dividends is 6% for stock A and 5% for stock B. Using the constant-growth DDM, the intrinsic value of stock A _________. A. will be higher than the intrinsic value of stock B B. will be the same as the intrinsic value of stock B C. will be less than the intrinsic value of stock B D. The answer cannot be determined from the information given.

23. Each of two stocks, A and B, is expected to pay a dividend of $7 in the upcoming year. The expected growth rate of dividends is 6% for both stocks. You require a return of 10% on stock A and a return of 12% on stock B. Using the constant-growth DDM, the intrinsic value of stock A _________. A. will be higher than the intrinsic value of stock B B. will be the same as the intrinsic value of stock B C. will be less than the intrinsic value of stock B D. The answer cannot be determined from the information given.

24. You want to earn a return of 11% on each of two stocks, A and B. Stock A is expected to pay a dividend of $3 in the upcoming year, while stock B is expected to pay a dividend of $2 in the upcoming year. The expected growth rate of dividends for both stocks is 4%. Using the constant-growth DDM, the intrinsic value of stock A _________. A. will be higher than the intrinsic value of stock B B. will be the same as the intrinsic value of stock B C. will be less than the intrinsic value of stock B D. The answer cannot be determined from the information given.

42. Firms with higher expected growth rates tend to have P/E ratios that are ___________ the P/E ratios of firms with lower expected growth rates. A. higher than B. equal to C. lower than D. There is not necessarily any linkage between risk and P/E ratios.

43. Value stocks are more likely to have a PEG ratio _____. A. less than 1 B. equal to 1 C. greater than 1 D. less than zero

65. The common stock of the Avalon Corporation has been trading in a narrow range around $40 per share for months, and you believe it is going to stay in that range for the next 3 months. The price of a 3-month put option with an exercise price of $40 is $3, and a call with the same expiration date and exercise price sells for $4. How can you create a position involving a put, a call, and riskless lending that would have the same payoff structure as the stock at expiration? A. Buy the call, sell the put; lend the present value of $40. B. Sell the call, buy the put; lend the present value of $40. C. Buy the call, sell the put; borrow the present value of $40. D. Sell the call, buy the put; borrow the present value of $40.

69.Which strategy benefits from upside price movement and has some protection should the price of the security fall? A. Bull spread B. Long put C. Short call D. Straddle

7. At contract maturity the value of a call option is ___________, where X equals the option's strike price and ST is the stock price at contract expiration. A. Max (0, ST - X) B. Min (0, ST - X) C. Max (0, X - ST) D. Min (0, X - ST)

72. An investor is bearish on a particular stock and decided to buy a put with a strike price of $25. Ignoring commissions, if the option was purchased for a price of $.85, what is the break-even point for the investor? A. $24.15 B. $25 C. $25.87 D. $27.86

77. What strategy is designed to ensure a value within the bounds of two different stock prices? A. Collar B. Covered Call C. Protective put D. Straddle

8. Earnings yields tend to _______ when Treasury yields fall. A. fall B. rise C. remain unchanged D. fluctuate wildly

87. Estimates of a stock's intrinsic value calculated with the free cash flow methodology depend most critically on _______. A. the terminal value used B. whether one uses FCFF or FCFE C. the time period used to estimate the cash flows D. whether the firm is currently paying dividends

The initial maturities of most exchange-traded options are generally __________. A. less than 1 year B. less than 2 years C. between 1 and 2 years D. between 1 and 3 years

Which of the following expressions represents the value of a call option to its holder on the expiration date? A. ST - X if ST > X, 0 if ST ≤ X B. - (ST - X) if ST > X, 0 if ST ≤ X C. 0 if ST ≥ X, X - ST if ST < X D. 0 if ST ≥ X, - (X - ST) if ST < X

You buy a call option on Summit Corp. with an exercise price of $40 and an expiration date in September, and you write a call option on Summit Corp. with an exercise price of $40 and an expiration date in October. This strategy is called a _________. A. time spread B. long straddle C. short straddle D. money spread

You invest in the stock of Rayleigh Corp. and write a call option on Rayleigh Corp. This strategy is called a _________. A. covered call B. long straddle C. naked call D. money spread

You purchase a call option on a stock. The profit at contract maturity of the option position is ___________, where X equals the option's strike price, ST is the stock price at contract expiration, and C0 is the original purchase price of the option. A. Max (-C0, ST - X - C0) B. Min (-C0, ST - X - C0) C. Max (C0, ST - X + C0) D. Max (0, ST - X - C0)

67. A firm has a stock price of $54.75 per share. The firm's earnings are $75 million, and the firm has 20 million shares outstanding. The firm has an ROE of 15% and a plowback of 65%. What is the firm's PEG ratio? A. 1.5 B. 1.25 C. 1.1 D. 1

a EPS = $75,000,000/20,000,000 = $3.75 P/E = $54.75/$3.75 = 14.6 g = .65 × 15% = .0975 = 9.75% PEG = 14.6/9.75 = 1.5

77. The free cash flow to the firm is reported as $275 million. The interest expense to the firm is $60 million. If the tax rate is 35% and the net debt of the firm increased by $33 million, what is the free cash flow to the equity holders of the firm? A. $269 million B. $296 million C. $305 million D. $327 million

a FCFE = 275 - 60(1 - .35) + 33 = 269

76. The free cash flow to the firm is reported as $405 million. The interest expense to the firm is $76 million. If the tax rate is 35% and the net debt of the firm increased by $50 million, what is the free cash flow to the equity holders of the firm? A. $405.6 million B. $454.2 million C. $505.8 million D. $553.5 million

a FCFE = 405 - 76(1 - .35) + 50 = 405.6

84. Bill Jones inherited 5,000 shares of stock priced at $45 per share. He does not want to sell the stock this year due to tax reasons, but he is concerned that the stock will drop in value before year-end. Bill wants to use a collar to ensure that he minimizes his risk and doesn't incur too much cost in deferring the gain. January call options with a strike of $50 are quoted at a cost of $2, and January puts with a $40 exercise price are quoted at a cost of $3. If Bill establishes the collar and the stock price winds up at $35 in January, Bill's net position value including the option profit or loss and the stock is _________.

a Position value = 5,000 shares × $45/share = $225,000. To establish a collar, you would need 5,000/100 = 50 options. You would buy the 50 puts at a cost of $3(100)(50) = $15,000 and write the 50 calls, earning a premium of $2(100)(50) = $10,000. The initial cost is $15,000 - $10,000 = $5,000. If the stock price in January is $35, then profit can be found as: Profit = [Max ($0, $40 - $35) - Max ($0, $35 - $50)](100)(50) - $5,000 = $20,000 New stock value = 5,000 shares × $35 = $175,000, so Net position value = $175,000 + $20,000 = $195,000

Suppose you purchase one Texas Instruments August 75 call contract quoted at $8.50 and write one Texas Instruments August 80 call contract quoted at $6. If, at expiration, the price of a share of Texas Instruments stock is $79, your profit would be _________. A. $150 B. $400 C. $600 D. $1,850 Profit = 100[(79 - 75)] - 8.50 + 6] = $150

a Profit = 100[(79 - 75)] - 8.50 + 6] = $150

29. Eagle Brand Arrowheads has expected earnings of $1.25 per share and a market capitalization rate of 12%. Earnings are expected to grow at 5% per year indefinitely. The firm has a 40% plowback ratio. By how much does the firm's ROE exceed the market capitalization rate? A. .5% B. 1% C. 1.5% D. 2%

a ROE=g/b=0.05/0.4=12.5%; k is given as 12%, so ROE-k=.5%

4. You write one IBM July 120 call contract for a premium of $4. You hold the option until the expiration date, when IBM stock sells for $121 per share. You will realize a ______ on the investment. A. $300 profit B. $200 loss C. $600 loss D. $200 profit

a Short call profit = Min [0, ($120 - $121)(100)] + $400 = $300

55. Ace Frisbee Corporation produces a good that is very mature in the firm's product life cycles. Ace Frisbee Corporation is expected to pay a dividend in year 1 of $3, a dividend in year 2 of $2, and a dividend in year 3 of $1. After year 3, dividends are expected to decline at the rate of 2% per year. An appropriate required return for the stock is 8%. Using the multistage DDM, the stock should be worth __________ today. A. $13.07 B. $13.58 C. $18.25 D. $18.78

a V3 = $1× (0.98)/[.08 - (-.02)] = $9.80 is the value of D4, D5, . . . ∞ The total value at time 3 is $1 + 9.80 = $10.80 The discounted cash flows are

37. Grott and Perrin, Inc., has expected earnings of $3 per share for next year. The firm's ROE is 20%, and its earnings retention ratio is 70%. If the firm's market capitalization rate is 15%, what is the present value of its growth opportunities? A. $20 B. $70 C. $90 D. $115

a Value with no growth = $3/.15 = $20 Growth rate = .7 × 20% = 14% Value with growth = $3 × (1 - .7)/(.15 - .14) = $90 PVGO = $90 - 70 = $20

40. Flanders, Inc., has expected earnings of $4 per share for next year. The firm's ROE is 8%, and its earnings retention ratio is 40%. If the firm's market capitalization rate is 15%, what is the present value of its growth opportunities? A. -$6.33 B. $0 C. $20.34 D. $26.67

a alue with no growth = $4/.15 = $26.67 Growth rate = .4 × 8% = 3.2% Value with growth = $4 × (1 - .4)/(.15 - .032) = $20.34 PVGO = $20.34 - 26.67 = -$6.33

51. Interior Airline is expected to pay a dividend of $3 in the upcoming year. Dividends are expected to grow at the rate of 10% per year. The risk-free rate of return is 4%, and the expected return on the market portfolio is 13%. The stock of Interior Airline has a beta of 4. Using the constant-growth DDM, the intrinsic value of the stock is _________. A. $10 B. $22.73 C. $27.78 D. $41.67

a k = .04 + .4(.13 - .04) = .4 V0 = [3/(.4 - .1)] = 10

53. Caribou Gold Mining Corporation is expected to pay a dividend of $6 in the upcoming year. Dividends are expected to decline at the rate of 3% per year. The risk-free rate of return is 5%, and the expected return on the market portfolio is 13%. The stock of Caribou Gold Mining Corporation has a beta of .5. Using the constant-growth DDM, the intrinsic value of the stock is _________. A. $50 B. $100 C. $150 D. $200

a k = .05 + .5(.13 - .05) = .09 V0 = {6/[.09 - (-.03)]} = 50

13. A stock has an intrinsic value of $15 and an actual stock price of $13.50. You know that this stock ________. A. has a Tobin's q value < 1 B. will generate a positive alpha C. has an expected return less than its required return D. has a beta > 1

16. A firm cuts its dividend payout ratio. As a result, you know that the firm's _______. A. return on assets will increase B. earnings retention ratio will increase C. earnings growth rate will fall D. stock price will fall

17. __________ is the amount of money per common share that could be realized by breaking up the firm, selling its assets, repaying its debt, and distributing the remainder to shareholders. A. Book value per share B. Liquidation value per share C. Market value per share D. Tobin's q

19. Stockholders of Dogs R Us Pet Supply expect a 12% rate of return on their stock. Management has consistently been generating an ROE of 15% over the last 5 years but now believes that ROE will be 12% for the next 5 years. Given this, the firm's optimal dividend payout ratio is now ______. A. 0% B. 100% C. between 0% and 50% D. between 50% and 100%

5. New-economy companies generally have higher _______ than old-economy companies. A. book value per share B. P/E multiples C. profits D. asset values

56. A firm's earnings per share increased from $10 to $12, its dividends increased from $4 to $4.40, and its share price increased from $80 to $100. Given this information, it follows that _________. A. the stock experienced a drop in its P/E ratio B. the company had a decrease in its dividend payout ratio C. both earnings and share price increased by 20% D. the required rate of return increased

57. Assuming all other factors remain unchanged, __________ would increase a firm's price-earnings ratio. A. an increase in the dividend payout ratio B. a reduction in investor risk aversion C. an expected increase in the level of inflation D. an increase in the yield on Treasury bills

58. A company with an expected earnings growth rate which is greater than that of the typical company in the same industry most likely has _________________. A. a dividend yield which is greater than that of the typical company B. a dividend yield which is less than that of the typical company C. less risk than the typical company D. less sensitivity to market trends than the typical company

78. You are convinced that a stock's price will move by at least 15% over the next 3 months. You are not sure which way the price will move, but you believe that the results of a patent hearing are definitely going to have a major effect on the stock price. You are somewhat more bullish than bearish however. Which one of the following options strategies best fits this scenario? A. Buy a strip. B. Buy a strap. C. Buy a straddle. D. Write a straddle.

85. You own a stock portfolio worth $50,000. You are worried that stock prices may take a dip before you are ready to sell, so you are considering purchasing either at-the-money or out-of-the-money puts. If you decide to purchase the out-of-the-money puts, your maximum loss is __________ than if you buy at-the-money puts and your maximum gain is __________. A. greater; lower B. greater; greater C. lower; greater D. lower; lower

A put option on Dr. Pepper Snapple Group, Inc., has an exercise price of $45. The current stock price is $41. The put option is _________. A. at the money B. in the money C. out of the money D. knocked out

Exercise prices for listed stock options usually occur in increments of ____ and bracket the current stock price. A. $1 B. $5 C. $20 D. $25

In 1973, trading of standardized options on a national exchange started on the _________. A. AMEX B. CBOE C. NYSE D. CFTC

Longer-term American-style options with maturities of up to 3 years are called __________. A. warrants B. LEAPS C. GICs D. CATs

__________ is the most risky transaction to undertake in the stock-index option markets if the stock market is expected to fall substantially after the transaction is completed. A. Writing an uncovered call option B. Writing an uncovered put option C. Buying a call option D. Buying a put option

73. A firm reports EBIT of $100 million. The income statement shows depreciation of $20 million. If the tax rate is 35% and total capital expenditures and increases in working capital total $10 million, what is the free cash flow to the firm? A. $57 B. $65 C. $75 D. $95

b FCFF = 100(1 - .35) + 20 - 10 = $75 million

28. Weyerhaeuser Incorporated has a balance sheet that lists $70 million in assets, $45 million in liabilities, and $25 million in common shareholders' equity. It has 1 million common shares outstanding. The replacement cost of its assets is $85 million. Its share price in the market is $49. Its book value per share is _________. A. $16.67 B. $25 C. $37.50 D. $40.83

b BVPS=25M/1M=25

27. The market capitalization rate on the stock of Aberdeen Wholesale Company is 10%. Its expected ROE is 12%, and its expected EPS is $5. If the firm's plowback ratio is 60%, its P/E ratio will be _________. A. 7.14 B. 14.29 C. 16.67 D. 22.22

b Dividend payout ratio = 1 - .46 = .4 Expected dividend = .4 × $5 = $2 Growth rate = .6 × 12% = 7.2% Value = $2/(.1 - .072) = $71.43 P/E = $71.43/$5 = 14.29

26. The market capitalization rate on the stock of Aberdeen Wholesale Company is 10%. Its expected ROE is 12%, and its expected EPS is $5. If the firm's plowback ratio is 50%, its P/E ratio will be _________. A. 8.33 B. 12.5 C. 19.23 D. 24.15

b Dividend payout ratio = 1 - .5 = .5 Expected dividend = .5 × $5 = $2.50 Growth rate = .5 × 12% = 6% Value = $2.50/(.10 - .06) = $62.50 P/E = $62.50/$5 = 12.5

84. When Google's share price reached $475 per share, Google had a P/E ratio of about 68 and an estimated market capitalization rate of 11.5%. Google pays no dividends. Approximately what percentage of Google's stock price was represented by PVGO? A. 92% B. 87% C. 77% D. 64%

b EPS = $475/68 = $6.985 PVGO = $475 - ($6.985/.115) = $414.26 $414.26/$475 = 87.21%

78. The free cash flow to the firm is reported as $205 million. The interest expense to the firm is $22 million. If the tax rate is 35% and the net debt of the firm increased by $25 million, what is the approximate market value of the firm if the FCFE grows at 2% and the cost of equity is 11%? A. $2,168 billion B. $2,445 billion C. $2,565 billion D. $2,998 billion

b FCFE = 205 - 22(1 - .35) + 25 = 215.70 Value = (215.7×1.02)/(.11 - .02) = 2,445

72. The EBIT of a firm is $300, the tax rate is 35%, the depreciation is $20, capital expenditures are $60, and the increase in net working capital is $30. What is the free cash flow to the firm? A. $85 B. $125 C. $185 D. $305

b FCFF = 300(1 - .35) + 20 - 60 - 30 = $125 million

36. Cache Creek Manufacturing Company is expected to pay a dividend of $3.36 in the upcoming year. Dividends are expected to grow at 8% per year. The risk-free rate of return is 4%, and the expected return on the market portfolio is 14%. Investors use the CAPM to compute the market capitalization rate and use the constant-growth DDM to determine the value of the stock. The stock's current price is $84. Using the constant-growth DDM, the market capitalization rate is _________. A. 9% B. 12% C. 14% D. 18%

b From the relationship k = (3.36/84) + .08 = .12

1. You purchase one IBM July 120 call contract for a premium of $5. You hold the option until the expiration date, when IBM stock sells for $123 per share. You will realize a ______ on the investment. A. $200 profit B. $200 loss C. $300 profit D. $300 loss

b Long call profit = Max [0, ($123 - $120)(100)] - $500 = -$200

3. You purchase one IBM July 120 put contract for a premium of $3. You hold the option until the expiration date, when IBM stock sells for $123 per share. You will realize a ______ on the investment. A. $300 profit B. $300 loss C. $500 loss D. $200 profit

b Long put profit = Max [0, ($120 - $123)(100)] - $300 = -$300

63. A common stock pays an annual dividend per share of $1.80. The risk-free rate is 5%, and the risk premium for this stock is 4%. If the annual dividend is expected to remain at $1.80 per share, what is the value of the stock? A. $17.78 B. $20 C. $40 D. None of these options

b P = $1.80/.09 = $20

62. A firm has an earnings retention ratio of 40%. The stock has a market capitalization rate of 15% and an ROE of 18%. What is the stock's P/E ratio? A. 12.82 B. 7.69 C. 8.33 D. 9.46

b P/E1=1-.4/.15-(.18x.4)=7.69

68. ART has come out with a new and improved product. As a result, the firm projects an ROE of 25%, and it will maintain a plowback ratio of .20. Its earnings this year will be $3 per share. Investors expect a 12% rate of return on the stock. At what price would you expect ART to sell? A. $25 B. $34.29 C. $42.86 D. $45.67

b P0=3.00(1-.2)/(.12-.25(.2))=34.29

69. ART has come out with a new and improved product. As a result, the firm projects an ROE of 25%, and it will maintain a plowback ratio of .20. Its earnings this year will be $3 per share. Investors expect a 12% rate of return on the stock. At what P/E ratio would you expect ART to sell? A. 8.33 B. 11.43 C. 14.29 D. 15.25

b P0=3.00(1-.2)/(.12-.25(.2))=34.29

You are cautiously bullish on the common stock of the Wildwood Corporation over the next several months. The current price of the stock is $50 per share. You want to establish a bullish money spread to help limit the cost of your option position. You find the following option quotes: Ignoring commissions, the cost to establish the bull money spread with calls would be _______. A. $1,050 B. $650 C. $400 D. $400 income rather than cost To establish a bull money spread with calls, you would buy the 45 call at a cost of $8.50 and write the 55 call, earning the $2 premium. The initial cost is ($2 - $8.50)(100) = -$650.

b To establish a bull money spread with calls, you would buy the 45 call at a cost of $8.50 and write the 55 call, earning the $2 premium. The initial cost is ($2 - $8.50)(100) = -$650.

74. The free cash flow to the firm is $300 million in perpetuity, the cost of equity equals 14%, and the WACC is 10%. If the market value of the debt is $1 billion, what is the value of the equity using the free cash flow valuation approach? A. $1 billion B. $2 billion C. $3 billion D. $4 billion

b Total value = 300/.10 = $3 billion Equity value = $3 billion - 1 billion = $2 billion

25. You are considering acquiring a common share of Sahali Shopping Center Corporation that you would like to hold for 1 year. You expect to receive both $1.25 in dividends and $35 from the sale of the share at the end of the year. The maximum price you would pay for a share today is __________ if you wanted to earn a 12% return. A. $31.25 B. $32.37 C. $38.47 D. $41.32

b V=1.25+35/1+.12=32.37

You sell one Hewlett Packard August 50 call contract and sell one Hewlett Packard August 50 put contract. The call premium is $1.25 and the put premium is $4.50. Your strategy will pay off only if the stock price is __________ in August. A. either lower than $44.25 or higher than $55.75 B. between $44.25 and $55.75 C. higher than $55.75 D. lower than $44.25 You have positive profit in the range $50 - ($1.25 + $4.50) and $50 + ($1.25 + $4.50).

b You have positive profit in the range $50 - ($1.25 + $4.50) and $50 + ($1.25 + $4.50).

30. Gagliardi Way Corporation has an expected ROE of 15%. If it pays out 30% of its earnings as dividends, its dividend growth rate will be _____. A. 4.5% B. 10.5% C. 15% D. 30%

b b = 1 - .3 = .7 g = b × ROE = .7 × 15% = 10.5%

81. A firm is expected to produce earnings next year of $3 per share. It plans to reinvest 25% of its earnings at 20%. If the cost of equity is 11%, what should be the value of the stock? A. $27.27 B. $37.50 C. $66.67 D. $70

b g = .25 × .20 = .05 D1 = $3(1 - .25) = $2.25 P0 = $2.25/(.11 - .05) = $37.50

45. Cache Creek Manufacturing Company is expected to pay a dividend of $4.20 in the upcoming year. Dividends are expected to grow at the rate of 8% per year. The risk-free rate of return is 4%, and the expected return on the market portfolio is 14%. Investors use the CAPM to compute the market capitalization rate on the stock and use the constant-growth DDM to determine the intrinsic value of the stock. The stock is trading in the market today at $84. Using the constant-growth DDM and the CAPM, the beta of the stock is _________. A. 1.4 B. .9 C. .8 D. .5

b k = $4.20/$84 + .08 = .13 .13 = .04 + β(.14 - .04) β = .09/.10 = .9

47. Westsyde Tool Company is expected to pay a dividend of $2 in the upcoming year. The risk-free rate of return is 6%, and the expected return on the market portfolio is 12%. Analysts expect the price of Westsyde Tool Company shares to be $29 a year from now. The beta of Westsyde Tool Company's stock is 1.2. Using a one-period valuation model, the intrinsic value of Westsyde Tool Company stock today is _________. A. $24.29 B. $27.39 C. $31.13 D. $34.52

b k = .06 + 1.2(.12 - .06) = .132 V=2.00+29.00/(1+.1320)=27.39

64. Transportation stocks currently provide an expected rate of return of 15%. TTT, a large transportation company, will pay a year-end dividend of $3 per share. If the stock is selling at $60 per share, what must be the market's expectation of the constant-growth rate of TTT dividends? A. 5% B. 10% C. 20% D. None of these options

b k = D1/P0 + g .15 = 3/60 + g g = .10

48. Todd Mountain Development Corporation is expected to pay a dividend of $2.50 in the upcoming year. Dividends are expected to grow at the rate of 8% per year. The risk-free rate of return is 5%, and the expected return on the market portfolio is 12%. The stock of Todd Mountain Development Corporation has a beta of .75. Using the CAPM, the return you should require on the stock is _________. A. 7.25% B. 10.25% C. 14.75% D. 21%

b k=.05+.75(12-.05)=.1025

Consider two bonds, A and B. Both bonds presently are selling at their par value of $1,000. Each pay interest of $120 annually. Bond A will mature in 5 years while bond B will mature in 6 years. If the yields to maturity on the two bonds change from 12% to 14%, _________.

both bonds will decrease in value but bond B will decrease more than bond A

12. If a stock is correctly priced, then you know that ____________. A. the dividend payout ratio is optimal B. the stock's required return is equal to the growth rate in earnings and dividends C. the sum of the stock's expected capital gain and dividend yield is equal to the stock's required rate of return D. the present value of growth opportunities is equal to the value of assets in place

20. The constant-growth dividend discount model (DDM) can be used only when the ___________. A. growth rate is less than or equal to the required return B. growth rate is greater than or equal to the required return C. growth rate is less than the required return D. growth rate is greater than the required return

4. The value of Internet companies is based primarily on _____. A. current profits B. Tobin's q C. growth opportunities D. replacement cost

41. Firm A is high-risk, and Firm B is low-risk. Everything else equal, which firm would you expect to have a higher P/E ratio? A. Firm A B. Firm B C. Both would have the same P/E if they were in the same industry. D. There is not necessarily any linkage between risk and P/E ratios.

71. An investor purchases a long call at a price of $2.50. The expiration price is $35. If the current stock price is $35.10, what is the break-even point for the investor? A. $32.50 B. $35 C. $37.50 D. $37.60 Break even = 35 + 2.50 = 37.50

73.Which of the following strategies makes a profit if the stock price stays stable? A. Long call and short put B. Long call and long put C. Short call and short put D. Short call and long put

75. If you combine a long stock position with selling an at-the-money call option, the resulting net payoff profile will resemble the payoff profile of a _______. A. long call B. short call C. short put D. long put

8. At contract maturity the value of a put option is ___________, where X equals the option's strike price and ST is the stock price at contract expiration. A. Max (0, ST - X) B. Min (0, ST - X) C. Max (0, X - ST) D. Min (0, X - ST)

80. Firm A has a stock price of $35, and 60% of the value of the stock is in the form of PVGO. Firm B also has a stock price of $35, but only 20% of the value of stock B is in the form of PVGO. We know that: I. Stock A will give us a higher return than Stock B. II. An investment in stock A is probably riskier than an investment in stock B. III. Stock A has higher forecast earnings growth than stock B. A. I only B. I and II only C. II and III only D. I, II, and III

88. The greatest value to an analyst from calculating a stock's intrinsic value is _______. A. how easy it is to come up with accurate model inputs B. the precision of the value estimate C. how the process forces analysts to understand the critical variables that have the greatest impact on value D. how all the different models typically yield identical value results

9. An American put option gives its holder the right to _________. A. buy the underlying asset at the exercise price on or before the expiration date B. buy the underlying asset at the exercise price only at the expiration date C. sell the underlying asset at the exercise price on or before the expiration date D. sell the underlying asset at the exercise price only at the expiration date

9. Which one of the following is a common term for the market consensus value of the required return on a stock? A. Dividend payout ratio B. Intrinsic value C. Market capitalization rate D. Plowback ratio

A "bet" option is also called a ____ option. A. barrier B. lookback C. digital D. foreign exchange

Advantages of exchange-traded options over OTC options include all but which one of the following? A. Ease and low cost of trading B. Anonymity of participants C. Contracts that are tailored to meet the needs of market participants D. No concerns about counterparty credit risk

An option with a payoff that depends on the average price of the underlying asset during at least some portion of the life of the option is called ______ option. A. an American B. a European C. an Asian D. an Australian

Buyers of listed options __________ required to post margins, and writers of naked listed options __________ required to post margins. A. are; are not B. are; are C. are not; are D. are not; are not

Each listed stock option contract gives the holder the right to buy or sell __________ shares of stock.

The common stock of the Avalon Corporation has been trading in a narrow range around $40 per share for months, and you believe it is going to stay in that range for the next 3 months. The price of a 3-month put option with an exercise price of $40 is $3, and a call with the same expiration date and exercise price sells for $4. What would be a simple options strategy using a put and a call to exploit your conviction about the stock price's future movement? A. Sell a call. B. Purchase a put. C. Sell a straddle. D. Buy a straddle.

You invest in the stock of Valleyview Corp. and purchase a put option on Valleyview Corp. This strategy is called a _________. A. long straddle B. naked put C. protective put D. short stroll

35. Rose Hill Trading Company is expected to have EPS in the upcoming year of $6. The expected ROE is 18%. An appropriate required return on the stock is 14%. If the firm has a plowback ratio of 70%, its intrinsic value should be _________. A. $20.93 B. $69.77 C. $128.57 D. $150

c 6000(1-.70)/.14-.18(.70)=128.57

66. A stock is trading at $50. You believe there is a 60% chance the price of the stock will increase by 10% over the next 3 months. You believe there is a 30% chance the stock will drop by 5%, and you think there is only a 10% chance of a major drop in price of 20%. At-the-money 3-month puts are available at a cost of $650 per contract. What is the expected dollar profit for a writer of a naked put at the end of 3 months? A. $300 B. $200 C. $475 D. $0

c E[Profit] = -{.60Max [$0, $50 - ($50)(1.1)] + .30Max [$0, $50 - ($50)(0.95)] + .10Max [$0, $50 - ($50)(.80)]} (100) + $650 = - [.6(0) + .3(250) + .1(1,000)] + 650 = $475

83. You find digital option quotes on jobless claims. You can buy a call option with a strike price of 300,000 jobless claims. This option pays $100 if actual claims exceed the strike price and pays zero otherwise. The option costs $68. A second digital call with a strike price of 305,000 jobless claims is available at a cost of $53. Suppose you buy the option with the 300,000 strike and sell the option with the 305,000 strike and jobless claims actually wind up at 303,000. Your net profit on the position is ______. A. -$15 B. $200 C. $85 D. $185

c Initial cost = -C300 + C305 = -$68 + $53 = -$15 At actual jobless claims of 303,000, at contract maturity the C300 call is worth $100 and the C305 call is worthless. Profit = +$100 - $0 - $15 = $85

33. A firm is planning on paying its first dividend of $2 three years from today. After that, dividends are expected to grow at 6% per year indefinitely. The stock's required return is 14%. What is the intrinsic value of a share today? A. $25 B. $16.87 C. $19.24 D. $20.99

c Intrinsic value at time 2 = $2/(.14 - .06) = $25 Intrinsic value today = $25/(1.14)2 = $19.24

You buy one Hewlett Packard August 50 call contract and one Hewlett Packard August 50 put contract. The call premium is $1.25, and the put premium is $4.50. Your highest potential loss from this position is _________. A. $125 B. $450 C. $575 D. unlimited Loss = 100(1.25 + 4.50) = 575 if stock price is $50 at expiration

c Loss = 100(1.25 + 4.50) = 575 if stock price is $50 at expiration.

71. ART has come out with a new and improved product. As a result, the firm projects an ROE of 25%, and it will maintain a plowback ratio of .20. Its earnings this year will be $3 per share. Investors expect a 12% rate of return on the stock. What price do you expect ART shares to sell for in 4 years? A. $53.96 B. $44.95 C. $41.68 D. $39.76

c P3 = P0 (1 + g)4 = 34.29(1.05)4 = 41.68

You purchase one IBM March 120 put contract for a put premium of $10. The maximum profit that you could gain from this strategy is _________. A. $120 B. $1,000 C. $11,000 D. $12,000 Profit = 100(120 - 10) = 11,000

c Profit = 100(120 - 10) = 11,000

You are cautiously bullish on the common stock of the Wildwood Corporation over the next several months. The current price of the stock is $50 per share. You want to establish a bullish money spread to help limit the cost of your option position. You find the following option quotes: If in June the stock price is $53, your net profit on the bull money spread (buy the 45 call and sell the 55 call) would be ________. A. $300 B. -$400 C. $150 D. $50 ST = $53 at contract maturity in June Profit = C45, June - C55, June - Initial cost Profit = [Max (0, $53 - $45) - Max (0, $53 - $55)](100) - $650 = $150

c ST = $53 at contract maturity in June Profit = C45, June - C55, June - Initial cost Profit = [Max (0, $53 - $45) - Max (0, $53 - $55)](100) - $650 = $150

The common stock of the Avalon Corporation has been trading in a narrow range around $40 per share for months, and you believe it is going to stay in that range for the next 3 months. The price of a 3-month put option with an exercise price of $40 is $3, and a call with the same expiration date and exercise price sells for $4. Suppose you write a strap and the stock price winds up to be $42 at contract expiration. What was your net profit on the strap? A. $200 B. $300 C. $700 D. $400

c Selling a strap entails selling two calls and selling one put. Initial income = 2C0 + P0 = [(2)(4) + 3](100) = $1,100. If the final stock price is $42, the position profit is found as Profit = [-2Max ($0, $42 - 40) + Max ($0, $40 - $42)](100) + $1,100 = $700

68. You sell one IBM July 90 call contract for a premium of $4 and two puts for a premium of $3 each. You hold the position until the expiration date, when IBM stock sells for $95 per share. You will realize a ______ on this strip. A. $300 profit B. $100 loss C. $500 profit D. $200 profit

c Selling an IBM July 90 strip entails selling two IBM July 90 puts and one IBM July 90 call. Initial income = C90 + 2P90 = [4 + 2(3)](100) = $1,000. If the final stock price is $95, the position value is found as: Profit = [-Max ($0, $95 - 90) + 2Max ($0, $90 - $95)](100) + $1,000 = -$500 + $1,000 = $500

54. Lifecycle Motorcycle Company is expected to pay a dividend in year 1 of $2, a dividend in year 2 of $3, and a dividend in year 3 of $4. After year 3, dividends are expected to grow at the rate of 7% per year. An appropriate required return for the stock is 12%. Using the multistage DDM, the stock should be worth __________ today. A. $63.80 B. $65.13 C. $67.95 D. $85.60

c V3 = $4 × (1.07)/(.12 - .07) = $85.60 is the value of D4, D5, . . . ∞ The total value at time 3 is $4 + 85.60 = $89.60 The discounted cash flows are

60. Sanders, Inc., paid a $4 dividend per share last year and is expected to continue to pay out 60% of its earnings as dividends for the foreseeable future. If the firm is expected to generate a 13% return on equity in the future, and if you require a 15% return on the stock, the value of the stock is _________. A. $26.67 B. $35.19 C. $42.94 D. $59.89

c g = (1 - .6) × 13% = 5.2% D1 = $4 × (1.052) = $4.208 Intrinsic value = $4.208/(.15 - .052) = $42.94

82. Next year's earnings are estimated to be $5. The company plans to reinvest 20% of its earnings at 15%. If the cost of equity is 9%, what is the present value of growth opportunities? A. $9.09 B. $10.10 C. $11.11 D. $12.21

c g = .20 × .15 = .03 Value with growth = ($5 × .80)/(.09 - .03) = 66.67 Value without growth = $5/.09 = $55.56 PVGO = $66.67 - 55.56 = $11.11

32. Brevik Builders has an expected ROE of 25%. Its dividend growth rate will be __________ if it follows a policy of paying 30% of earnings in the form of dividends. A. 5% B. 15% C. 17.5% D. 45%

c g = .25(1 - .3) = .175

46. Westsyde Tool Company is expected to pay a dividend of $1.50 in the upcoming year. The risk-free rate of return is 6%, and the expected return on the market portfolio is 14%. Analysts expect the price of Westsyde Tool Company shares to be $29 a year from now. The beta of Westsyde Tool Company's stock is 1.2. Using the CAPM, an appropriate required return on Westsyde Tool Company's stock is _________. A. 8% B. 10.8% C. 15.6% D. 16.8%

c k = .06 + 1.20(.14 - .06) = .156

14. Bill, Jim, and Shelly are all interested in buying the same stock that pays dividends. Bill plans on holding the stock for 1 year. Jim plans on holding the stock for 3 years. Shelly plans on holding the stock until she retires in 10 years. Which one of the following statements is correct? A. Bill will be willing to pay the most for the stock because he will get his money back in 1 year when he sells. B. Jim should be willing to pay three times as much for the stock as Bill will pay because his expected holding period is three times as long as Bill's. C. Shelly should be willing to pay the most for the stock because she will hold it the longest and hence will get the most dividends. D. All three should be willing to pay the same amount for the stock regardless of their holding period.

3. If a firm increases its plowback ratio, this will probably result in _______ P/E ratio. A. a higher B. a lower C. an unchanged D. The answer cannot be determined from the information given.

5. ______ option can only be exercised on the expiration date. A. A Mexican B. An Asian C. An American D. A European

50. Generally speaking, the higher a firm's ROA, the _________ the dividend payout ratio and the _________ the firm's growth rate of earnings. A. higher; lower B. higher; higher C. lower; lower D. lower; higher

59. Everything else equal, which variable is negatively related to the intrinsic value of a company? A. D1 B. D0 C. g D. k

7. Which one of the following statements about market and book value is correct? A. All firms sell at a market-to-book ratio above 1. B. All firms sell at a market-to-book ratio greater than or equal to 1. C. All firms sell at a market-to-book ratio below 1. D. Most firms have a market-to-book ratio above 1, but not all.

74.Which of the following strategies makes a profit when the stock price declines and loses money when the stock price increases? A. Long call and short put B. Long call and long put C. Short call and short put D. Short call and long put

86. In what industry are investors likely to use the dividend discount model and arrive at a price close to the observed market price? A. Import/export trade B. Software C. Telecommunications D. Utility

A quanto provides its holder with the right to ______________. A. participate in the payoffs from a portfolio of gambling casino stocks B. exchange a fixed amount of a foreign currency for dollars at a specified exchange rate C. participate in the investment performance of a foreign security D. exchange the payoff from a foreign investment for dollars at a fixed exchange rate

A time spread may be executed by _____. A. selling an option with one exercise price and buying a similar one with a different exercise price B. buying two options that have the same expiration dates but different strike prices C. selling two options that have the same expiration dates but different strike prices D. selling an option with one expiration date and buying a similar option with a different expiration date

Exchange-traded stock options expire on the _______________ of the expiration month. A. second Monday B. third Wednesday C. second Thursday D. third Friday

The potential loss for a writer of a naked call option on a stock is _________. A. equal to the call premium B. larger the lower the stock price C. limited D. unlimited

Which one of the following is the ticker symbol for the CBOE option contract on the S&P 100 Index? A. SPX B. DJX C. CME D. OEX

Which one of the statements about margin requirements on option positions is not correct? A. The margin required will be higher if the option is in the money. B. If the required margin exceeds the posted margin, the option writer will receive a margin call. C. A buyer of a put or call option does not have to post margin. D. Even if the writer of a call option owns the stock, the writer will have to meet the margin requirement in cash.

You buy a call option on Merritt Corp. with an exercise price of $50 and an expiration date in July, and you write a call option on Merritt Corp. with an exercise price of $55 and an expiration date in July. This is called a ________. A. time spread B. long straddle C. short straddle D. money spread

85. A firm has a stock price of $55 per share and a P/E ratio of 75. If you buy the stock at this P/E and earnings fail to grow at all, how long should you expect it to take to just recover the cost of your investment? A. 27 years B. 37 years C. 55 years D. 75 years

d EPS = $55/75 = $.73333 per year Payback period = $55/$.73333 per year = 75 years

86. You purchase one IBM July 90 call contract for a premium of $4. The stock has a 2-for-1 split prior to the expiration date. You hold the option until the expiration date, when IBM stock sells for $48 per share. You will realize a ______ on the investment. A. $300 profit B. $100 loss C. $400 loss D. $200 profit

d Long call profit = 2Max {0, [$48 - ($90/2)(100)]} - $400 = $200

2. You purchase one IBM July 125 call contract for a premium of $5. You hold the option until the expiration date, when IBM stock sells for $123 per share. You will realize a ______ on the investment. A. $200 profit B. $200 loss C. $500 profit D. $500 loss

d Long call profit = Max [0, ($123 - $125)(100)] - $500 = -$500

21. Suppose that in 2012 the expected dividends of the stocks in a broad market index equaled $240 million when the discount rate was 8% and the expected growth rate of the dividends equaled 6%. Using the constant-growth formula for valuation, if interest rates increase to 9%, the value of the market will change by _____. A. -10% B. -20% C. -25% D. -33%

d Original value=240/.08-.06=12,000M New value=240/.09-.06=8,000M %A=8-12/12=-33.33%

66. A firm increases its dividend plowback ratio. All else equal, you know that _____________. A. earnings growth will increase and the stock's P/E will increase B. earnings growth will decrease and the stock's P/E will increase C. earnings growth will increase and the stock's P/E will decrease D. earnings growth will increase and the stock's P/E may or may not increase

d P0/E1=1-b/k-(ROExb)

The May 17, 2012, price quotation for a Boeing call option with a strike price of $50 due to expire in November is $20.80, while the stock price of Boeing is $69.80. The premium on one Boeing November 50 call contract is _________. A. $1,980 B. $4,900 C. $5,000 D. $2,080 Premium = $20.80 × 100 = $2,080

d Premium = $20.80 × 100 = $2,080

The common stock of the Avalon Corporation has been trading in a narrow range around $40 per share for months, and you believe it is going to stay in that range for the next 3 months. The price of a 3-month put option with an exercise price of $40 is $3, and a call with the same expiration date and exercise price sells for $4. Selling a straddle would generate total premium income of _____. A. $300 B. $400 C. $500 D. $700

d Sell a straddle = sell a put + sell a call Premium income for selling a straddle = (P0 + C0)100 = ($3 + $4)(100) = $700

You are cautiously bullish on the common stock of the Wildwood Corporation over the next several months. The current price of the stock is $50 per share. You want to establish a bullish money spread to help limit the cost of your option position. You find the following option quotes: Suppose you establish a bullish money spread with the puts. In June the stock's price turns out to be $52. Ignoring commissions, the net profit on your position is _______________. A. $500 B. $700 C. $200 D. $250 To establish a bull money spread with puts, you would buy the 45 put at a cost of $2 and write the 55 put, earning the $7.50 premium. The initial revenue is ($7.50 - $2)(100) = $550. ST = $52 at contract maturity in June Profit = P45, June - P55, June + Initial revenue Profit = [Max (0, $45 - $52) - Max (0, $55 - $52)](100) + $550 = $250.

d To establish a bull money spread with puts, you would buy the 45 put at a cost of $2 and write the 55 put, earning the $7.50 premium. The initial revenue is ($7.50 - $2)(100) = $550. ST = $52 at contract maturity in June Profit = P45, June - P55, June + Initial revenue Profit = [Max (0, $45 - $52) - Max (0, $55 - $52)](100) + $550 = $250.

31. A preferred share of Coquihalla Corporation will pay a dividend of $8 in the upcoming year and every year thereafter; that is, dividends are not expected to grow. You require a return of 7% on this stock. Using the constant-growth DDM to calculate the intrinsic value, a preferred share of Coquihalla Corporation is worth _________. A. $13.50 B. $45.50 C. $91 D. $114.29

d V=8/0.07=114.29

52. Caribou Gold Mining Corporation is expected to pay a dividend of $4 in the upcoming year. Dividends are expected to decline at the rate of 3% per year. The risk-free rate of return is 5%, and the expected return on the market portfolio is 13%. The stock of Caribou Gold Mining Corporation has a beta of .5. Using the CAPM, the return you should require on the stock is _________. A. 2% B. 5% C. 8% D. 9%

d k=.05+.5(.13-.05)=.09

49. Todd Mountain Development Corporation is expected to pay a dividend of $3 in the upcoming year. Dividends are expected to grow at the rate of 8% per year. The risk-free rate of return is 5%, and the expected return on the market portfolio is 17%. The stock of Todd Mountain Development Corporation has a beta of .75. Using the constant-growth DDM, the intrinsic value of the stock is _________. A. 4 B. 17.65 C. 37.50 D. 50

d k=0.05+.75(.17-.05)=.14 V=[3/.14-.08]=50

69. If the simple CAPM is valid and all portfolios are priced correctly, which of the situations below are possible? Consider each situation independently and assume the risk free rate is 5%. a. b. c. D.

d. market 30%

Call option

grants the holder the right, but not the obligation, to buy the underlying at a given strike price.

Put option

grants the holder the right, not not the obligation, to sell the underlying at a given strike price.

American Outlook Inc. is issuing bonds to obtain the funding necessary to acquire a major competitor. Review of the balance sheets indicates that American Outlook has also issued preferred and common stock in the past. Which component cost(s) should American Outlook use in evaluating the financial cost of acquiring the new firm?. The weighted average component cost of common stock, preferred stock, and debt. B. The price the firm paid for its assets divided by their market value. C. Shareholders' equity. D. The cost of the new debt issue alone.

he weighted average component cost of common stock, preferred stock, and debt.

Consider a 7-year bond with a 9% coupon and a yield to maturity of 12%. If interest rates remain constant, one year from now the price of this bond will be _________.

higher

The Sharpe, Treynor, and Jensen portfolio performance measures are derived from the CAPM,:

however, the Sharpe and Treynor measures use different risk measures, therefore the measures vary as to whether or not they are appropriate, depending on the investment scenario.

The Jensen portfolio evaluation measure:

is an absolute measure of return over and above that predicted by the CAPM.

Suppose two portfolios have the same average return, the same standard deviation of returns, but portfolio X has a higher beta than portfolio Y. According to the Sharpe measure, the performance of portfolio X:

is the same as the performance of portfolio Y.

You can be sure that a bond will sell at a premium to par when _________.

its coupon rate is greater than its yield to maturity

Everything else equal the __________ the maturity of a bond and the __________ the coupon the greater the sensitivity of the bond's price to interest rate changes.

longer; lower

Yields on municipal bonds are typically ___________ yields on corporate bonds of similar risk and time to maturity.

lower than

(NOT ON TEST) Two assets have the following expected returns and standard deviations when the risk-free rate is 5%: Asset A, E(ra)= 10%, σA = 20% Asset B, E(rb)= 15%, σB = 27% An investor with a risk aversion of A = 3 would find that _________________ on a risk-return basis.

neither asset A nor asset B is acceptable A= (E(r1)-Rf)/ σQ^2 Minimum Acceptable Return is given by E(rp)=(A * σQ^2)+rf For A: E(ra) =(3*.04)+.05=17% For B: E(rB)= (3*.729)+ .05=26.87%

A portfolio manager's ranking within a comparison universe may not provide a good measure of performance because:

portfolio durations can vary across managers. portfolio returns may not be calculated in the same way.

When discussing bonds, convexity relates to the _______.

shape of the bond price curve with respect to interest rates

Which of the following possible provisions of a bond indenture is designed to ease the burden of principal repayment by spreading it out over several years?

sinking fund

Primary Market

when a corporation uses the financial markets to raise new funds, the sale of securities is made by way of a new issue.

Secondary Market

when the securities are sold to the public (institutions or individuals). Financial managers are given feedback about their firms' performance.

You have $500,000 available to invest. The risk-free rate, as well as your borrowing rate, is 8%. The return on the risky portfolio is 16%. If you wish to earn a 22% return, you should _________.

y × .16 + (1 - y) × .08 = .22 .16 y - .08 y + .08 = .22 .08 y = .14 y = 1.75 Put 1.75 × $500,000 = $875,000 in the risky asset by borrowing $375,000.

yr 1 (55-50)/50 = 10% yr 2 (51-55)/55 = -7.27% yr 3 (54-51)/51= 5.88% [(1.10)(1 + -.0727)(1.0588)]⅓ - 1 = 2.60%

You invest $1,000 in a complete portfolio. The complete portfolio is composed of a risky asset with an expected rate of return of 16% and a standard deviation of 20% and a Treasury bill with a rate of return of 6%. __________ of your complete portfolio should be invested in the risky portfolio if you want your complete portfolio to have a standard deviation of 9%

σC = y × σp 9% = y × 20% y = 9/20 = 45%

The return on the risky portfolio is 15%. The risk-free rate, as well as the investor's borrowing rate, is 10%. The standard deviation of return on the risky portfolio is 20%. If the standard deviation on the complete portfolio is 25%, the expected return on the complete portfolio is _________.

σC = y × σp = .25 σC = y × .20 = .25 y = .25/.20 = 1.25 1 - y = -.25 E(rC) = 1.25 × 15% - .25 × 10% = 16.25%

What is default risk?

- The portion of nominal rate that represent compensation for the possibility of default

You invest $1,000 in a complete portfolio. The complete portfolio is composed of a risky asset with an expected rate of return of 16% and a standard deviation of 20% and a Treasury bill with a rate of return of 6%. A portfolio that has an expected value in 1 year of $1,100 could be formed if you

$1,100 = y × (1,000)(1.16) + (1 - y)1,000(1.06), so y =.4 place 40% of your money in the risky portfolio and the rest in the risk-free asset

A zero-coupon bond has a yield to maturity of 5% and a par value of $1,000. If the bond matures in 16 years, it should sell for a price of __________ today.

$458.00

A pension fund that begins with $500,000 earns 15% the first year and 10% the second year. At the beginning of the second year, the sponsor contributes another $300,000. The dollar-weighted and time-weighted rates of return, respectively, were:

$500,000 + $300,000/(1 + r) = $75,000/(1 + r) + $880,000/(1 + r)2; r = 12.059%; (15 + 10)/2 = 12.5%

Your investment has a 20% chance of earning a 30% rate of return, a 50% chance of earning a 10% rate of return, and a 30% chance of losing 6%. What is your expected return on this investment?

(.2)(30%) + (.5)(10%) + (.3)(-6%) = 9.2%

What is credit rating?

-what the probability of default to a consumer

B. credit

15. The fact that the exchange is the counter-party to every futures contract issued is important because it eliminates _________ risk. A. market B. credit C. interest rate D. basis

Single Stock Futures

A futures contract on the shares of an individual company.

Combination

An option trading strategy involving two or more call and put options.

Value stocks are more likely to have a PEG ratio _____. A. less than zero B. less than 1 C. equal to 1 D. greater than 1

C. rate anticipation swap

D. pure yield pickup swap

Short Position

The futures trader who commits to delivering the asset.

Time value

The value of an option in excess of its intrinsic value.

european

an _____ option can ONLY be exericised on the expiration date

collar

an options strategy that brackets the value of a portfolio between two bounds

The ______ measure of returns ignores compounding

arithmetic average

You have calculated the historical dollar-weighted return, annual geometric average return, and annual arithmetic average return. If you desire to forecast performance for next year, the best forecast will be given by the ________.

arithmetic average return

18. An underpriced stock provides an expected return that is ____________ the required return based on the capital asset pricing model (CAPM). A. less than B. equal to C. greater than D. greater than or equal to

A __________ bond is a bond where the issuer has an option to retire the bond before maturity at a specific price after a specific date.

Finance

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