Quiz #8

All assets minus all liabilities equals: A. net worth B. net working capital C. book value D. net tangible assets

The best answer is A. Total Assets - Total Liabilities = Net Worth (Current assets minus current liabilities equals net working capital.)

A customer invests $1,000 over a 10-year time horizon. At the end of 10 years, the investment is worth $4,000. The non-compounded annual rate of return is: A. 30% B. 40% C. 300% D. 400%

The best answer is A. The investment of $1,000 is worth $4,000 after 10 years. The return on investment is: $3,000 gain --------------------------- = 300% earned over 10 years $1,000 investment 300% ----------- = 30% annual non-compounded rate of return 10 years

A fundamental analyst is likely to use technical analysis to determine: A. transaction timing B. investment selection C. portfolio diversification D. market volatility

The best answer is A. Technical analysis is valid for fathoming short term price trends and is very useful in determining the specific time to buy or sell. However, the actual buy or sell decision is best made through fundamental analysis.

A customer wishes to make an investment that provides liquidity, marketability and current income. The BEST recommendation is: A. Treasury Note B. Bank CD C. Preferred Stock D. Growth stock

The best answer is A. This customer is looking for current income, so growth stocks are inappropriate. This customer is looking for ready marketability and CDs are not very marketable - they are typically held to maturity. Both preferred stock and Treasury notes provide current income, but Treasuries are more marketable and more liquid. This is the best of the choices offered.

A $1,000 par TIPS is issued with 5 years to maturity. The coupon rate on the bond is 3.50%. If the inflation rate for the next 5 years is 2.50%, the bond will be worth how much in 5 years? A. $1,000 B. $1,131 C. $1,188 D. $1,338

The best answer is B. A TIPS is a Treasury Inflation Protection Security. Aside from receiving the 3.50% coupon ($35 annual interest) paid to the bondholder, the principal is adjusted upwards by the inflation rate each year, and at maturity, the holder receives the inflated principal amount. $1,000 inflated by 2.50% annually equals: $1,000 x 1.025 x 1.025 x 1.025 x 1.025 x 1.025 = $1,131.

A customer invests $1,000 in an investment that is expected to generate $100 in the first year, $200 in the second year, and $300 in the third year, at which time the original $1,000 investment will be returned. What is the Return on Investment (ROI)? A. 10% B. 20% C. 30% D. 60%

The best answer is B. Return on Investment is a simple measure that takes an initial investment and shows how well it performs. The annual cash flows generated by the investment are averaged, and divided by the original investment amount. In this example, $1000 is invested, and that investment is expected to generate cash flow of $100 in the first year, $200 in the second year, and $300 in the third year, at which point the $1,000 original investment will be returned. The average annual cash flow is $100 + $200 + $300 = $600/3 years = $200 per year. Since $1,000 was invested, the ROI is $200 / $1,000 = 20%.

The Sharpe ratio measures the risk adjusted rate of return relative to the: A. duration of the securities within the portfolio B. standard deviation of the portfolio C. dollar amount invested in the portfolio D. average dollar cost of the securities

The best answer is B. The Sharpe ratio measures the incremental rate of return over the risk free rate achieved in a portfolio relative to the standard deviation (volatility) of the portfolio. If the ratio is positive, then there is a real benefit - extra investment return - for assuming the incremental risk. If the ratio is zero (or in exceptionally difficult economic times, such as a major recession or depression, it can even become negative), there is no benefit to assuming additional risk in the portfolio beyond what a risk free investment such as Treasury Bills will give.

A portfolio constructed by a manager has the following rate of return probabilities for the coming year: Rate of Return Probability 10% 50% 8% 25% -5% 25% What is the expected rate of return for this portfolio? A. 2.00% B. 3.75% C. 5.75% D. 8.25%

The best answer is C. To find the expected rate of return, each possible rate of return is multiplied by its probability; and then they are added up. Rate of Return Probability Expected Rate of Return 10% 50% 5.00% 8% 25% 2.00% -5% 25% -1.25% --------------- 5.75%

A 4 1/2% $1,000 par bond is selling in the market for $900. What is the bond's current yield? A. 4 1/2% B. Between 4 1/2% and 5% C. 5% D. Over 5%

The best answer is C. Current yield is: Annual Income / Market Price. Since this bond has a coupon rate of 4 1/2%, the annual income is 4.50% x $1,000 par = $45. Since the customer is paying $900 for the bond, the current yield is: $45 / $900 = 5%.

Fiscal policy encompasses which of the following? I Government spending II Social security payment levels III Tax policy IV Monetary policy A. I and II only B. III and IV only C. I, II, III D. I, II, III, IV

The best answer is C. Fiscal policy is set through Government Actions (approved by Congress) that influence economic activity. Fiscal policy encompasses the tax code, government transfer payment levels, and government spending. Monetary policy is controlled by the Federal Reserve Board.

Following is the balance sheet of a company: Cash $20,000 Accounts Receivable $20,000 Inventory $30,000 Long Term Assets $60,000 Trade Payable $15,000 Long Term Payables $30,000 Long Term Debt $25,000 What is the net working capital of the company? A. $5,000 B. $25,000 C. $55,000 D. $60,000

The best answer is C. Net working capital of a company is current assets - current liabilities. Current assets are those assets that are turned into cash within a year; current liabilities are those bills that must be paid within a year. The current assets in this example are cash, accounts receivable and inventory, totaling $70,000. The only current liability is trade payables, at $15,000. Thus, net working capital is $70,000 - $15,000 = $55,000.

The Federal Reserve open market trading activities affect which of the following? I M 1 levels II GNP growth III Treasury's accounts IV National debt levels A. I only B. II and III only C. I, II, III D. I, II, III, IV

The best answer is C. Open market operations do not affect the national debt. The issuance and redemption of government securities by the Treasury determines the national debt level. Open market operations affect monetary levels such as M 1 (currency in circulation and demand deposits); affect the business cycle; and affect the Treasury's accounts, since FRB funding for its trading activities is provided through the Treasury.

Foreign exchange markets: A. are regulated B. set exchange rates C. trade foreign currencies D. are centralized

The best answer is C. The foreign exchange market (Interbank Market) is where foreign currencies are traded. This is a decentralized, global, unregulated, 24 hour market where currencies are traded, mainly from bank to bank. It is the trading in this market that determines the relative values of currencies and hence, currency exchange rates. Therefore, it could be argued that Choice B is correct as well, but Choice C is the better answer.

The lowest investment grade rating is: A. B B. BB C. BBB D. CCC

The best answer is C. The lowest investment grade rating is BBB. BB and B ratings are considered to be medium grade while CCC, CC, and C are all speculative with C rating being the most speculative.

Given the set of the following numbers: 6, 7, 7, 14, 11, 2, 9, what is the range? A. 8 B. 10 C. 12 D. 14

The best answer is C. The range is the difference between the highest and lowest numbers in the set. The highest number is 14 and the lowest number is 2, so the difference is 12. The numbers in the set "range" from a low of 2 to a high of 14.

The quantitative method of evaluating investments that finds the interest rate that discounts periodic cash inflows and outflows to a present value of "0" is: A. inflation-adjusted return B. net present value C. total return D. internal rate of return

The best answer is D. The internal rate of return of an investment is the implicit interest rate that discounts the cash flows generated by the investment to a value of "0." This is the true "yield" of the investment, considering the time value of money.