Chapter 11-12 Personal Financial Planning
The phrase ________ is sadly appropriate for the actions of some people, as they perceive that investment success rests in making frequent transactions.
"playing the market"
A stock currently sells for $100 per share, and has earnings of $2.00 per share. What is the stock's P/E ratio?
50.00
Anthony Hopkins wants to start investing and desires to consistently beat the market. What will you tell him?
All of the above except A
The ________ is a common stock indicator, consisting of 30 large industrial firms, and is used to indicate how well stocks have done.
DJIA
The P/E ratio approach is a type of fundamental analysis.
True
You have just discovered one reason not to invest in stocks. What do you think it is?
Your tolerance of risk is low.
Call risk applies to:
bonds
Financial risk applies to:
bonds only
Business risk applies to:
both
Exchange rate risk applies to:
both
Inflation risk applies to:
both
Interest rate risk applies to:
both
Liquidity risk applies to:
both
Market risk applies to:
both
The ratio of the annual dividend to the market price of the stock is called the
dividend yield
Common stockholders not only have the right to elect the board but also must approve dayminus−tominus−day decisions of the chief executive officer.
false
The real rate of return can never be a negative number.
false
Compared to other investment options, we can safely say that investing in stocks
has greater risk.
Herd behavior
is a kind of selfminus−fulfilling behavior.
Because every company is almost certain to experience a bad year or two, holding on to stock for only one year
is not a very sound investment decision.
A ________ is a measure of the performance of a group of stocks that represent the market or a sector of the market.
stock market index
A good source of investment advice is a neutral party that doesn't charge a fee or earn a commission from you.
true
A market order is an order to buy or sell a set number of securities immediately at the best price available.
true
If the nominal rate is 10% and inflation is 3%, the real rate of return is 7%.
true
Purchasing derivatives is a form of speculating.
true
The NASDAQ is the largest electronic stock exchange.
true
The collateral an investor must put up when conducting a short sale is known as a margin requirement.
true
A lending type investment, such as a corporate bond, represents a legal obligation for the issuer to pay its creditors back.
ture
The price at which an individual investor is willing to buy a security is the bid price.
ture
The acronym DRIP stands for
Dividend Reinvestment Plan.
A primary market is a market in which new, as opposed to previously issued, securities are traded.
true
An option gives you the right to buy or sell the underlying asset at a set price on or before the option's maturity date.
true
Churning occurs when a broker engages in excessive trading in a client's security account to generate more commissions for the broker.
true
During a "bear market" stocks prices typically fall.
true
Holding several types of stock can greatly reduce the risk in your portfolio.
true
If your stock's beta was greater than 1.0 that indicates that your stock is more susceptible to movements in the market.
true
The dividend yield tells investors how much in the way of a return they would receive if the stock price and the dividend level remain constant.
true
The market price of the stock is a reflection of the potential earnings per share of the firm.
true
A typical bond will pay annual coupon payments until it matures, at which time it will surrender its par value to the owner of the bond.
ture
Harry and Harriet own 1,000 shares of AI Inc. in a brokerage account that is titled "Harry and Harriet, Tenancy-in-Common." Explain how the assets would be handled if Harry passed away. Would these scenarios be different if the account was titled "Harry and Harriet, Joint Tenancy with the Right of Survivorship"?
If the brokerage account was titled "Harry and Harriet, Tenancy-in-Common"and Harry passed away: A. Harry's heirs would receive Harry's shares, not Harriet. If the brokerage account was titled "Harry and Harriet, Joint Tenancy with the Right of Survivorship" and Harry passed away: B. Harriet would receive Harry's shares without the shares passing through probate.
You just learned that a blue chip company will issue a bond with a maturity of 100 years. The bond appears to be a good deal because it yields 8.78 percent. Assuming that the inflation rate stays at 3.25 percent, what is the bond's real rate of return today? If you were looking for a bond to purchase and hold for several years, would you buy this bond? Explain your answer in terms of future inflation projections and the length of the bond's maturity. Assuming that the inflation rate stays at 3.253.25 percent, what is the bond's real rate of return today?
The bond's real rate of return is 6.246.24 percent. Only a long-term investor would purchase this bond. If inflation were to increase, the value of this bond would decrease. The dramatic decrease in the value of the bond would be as a result of its sensitivity to changes in interest rates due to its long maturity.
Match each of the following behaviors with the appropriate bias as discussed in the chapter. a. Wanda owns Happy Clam Oil Exploration, but due to recent events, the share price is down 30 percent from when she bought it. She doesn't want to sell now because it had previously been up as much as 25 percent. b. Drew doesn't believe his friends who tell him that he cannot time the market. He has been successful in making profits from his trades this past month and plans to continue his day trading. c. Yusuf has been watching the gold market go up and up, so he decides that since everyone is buying gold he needs to do so as well.
Wanda's behavioral bias is called: disposition effect Drew's behavioral bias is called: overconfidence Yusef's behavioral bias is called: herd behavior
Political and regulatory risk applies to:
both
For several years you have been using charts and computer programs to project trends in the stock market. You are engaging in what type of analysis?
technical
The primary sources of information about the stock market and individual stocks are Moody's Investors Service, Standard & Poor's Stock Reports, Morningstar Investment Reports, and the Value Line Investment Survey.
true
The price/earnings ratio is an indication of how much investors are willing to pay for a dollar of the company's earnings
true
Historically, U.S. government securities have been considered the safest, lowestminus−risk investment available.
ture
Last year Marcelino graduated from high school and received several thousand dollars from an uncle as a graduation gift. Marcelino, now in his first year of college, just heard of a guy in his dorm that invested in an oil exploration company and made a huge profit in a few months. Marcelino likes the idea of making some money fast and is considering investing his graduation gift money in a similar stock. Marcelino's roommate, Luc, just finished a personal finance course and is concerned that Marcelino may be getting himself into trouble. Luc knows that Marcelino likes to shop online, has run up a fairly large credit card bill, and has trouble balancing his budget on a monthly basis. In addition, Marcelino really doesn't know much about investing or how people actually "make money investing." Luc has asked you to help him work through the following questions so that he can talk to Marcelino about his investment plans.
1. Before investing any money, Marcelino should: - have his financial affairs in order. - establish and stick to a budget. - make sure that he has adequate levels of homeowner's/renter's, auto, and health insurance to help cover unexpected property and liability, and medical expenses. - establish and maintain an emergency fund equal to three to six months of his take home pay. - set goals. 2. Marcelino's plan to make a quick profit in an Internet stock is most closely aligned with the definition of speculation. Short-term strategies that depend almost solely on supply and demand to determine prices are representative of speculation , not investment 3 A.The efficient market hypothesis states that all relevant information about a stock is reflected in the stock's current price. As such, it is extremely difficult to "beat the market" by picking one stock. This is the correct answer.B. B. It is extremely difficult to time the market, meaning that buying a stock at a low price and selling it at or near its high price is nearly impossible. Individuals, who say that they can beat the market or time the market accurately, tend to either overestimate their abilities or underestimate the probability of losing money in the stock market. 4. 47% 7.05 39.95 5 true 6. In addition to interest rate risk, Marcelino should ideally keep a watchful eye on all of the other risks. However given the uniqueness of an exploration stock the most important of the risks would be business risk, political and regulatory risk, and exchange rate risk if the firm deals substantially in overseas markets. 7. Systematic risk cannot be eliminated through diversification. Holding one stock does not increase systematic risk; however, owning only one stock does increase unsystematic risk. In other words, if a company-unique problem occurs, there is insufficient diversification to reduce the risk of loss. By investing in two unrelated stocks, Marcelino should reduce the volatility of his portfolio due to unsystematic "business specific" risk. 8. Luc is correct. Marcelino should avoid investing in only one stock. He should focus on accumulating a portfolio of stocks in different industries. By using a diversified approach, Marcelino will reduce unsystematic risk by allowing bad returns from a few stocks to be countered by higher returns in other stocks. Ultimately, this approach will reduce total portfolio variation (risk) without negatively affecting expected returns.
An investor is considering purchasing one of the following three stocks. Stock X has a market capitalization of $6 billion, pays a relatively high dividend with little increase in earnings, and has a P/E ratio of 11. Stock Y has a market capitalization of $64 billion but does not currently pay a dividend. Stock Y has a P/E ratio of 37. Stock Z, a housing industry company, has a market capitalization of $810810 million and a P/E of 18. a. Classify these stocks according to their market capitalizations. b. Which of the three would you classify as a growth stock? Why? c. Which stock would be most appropriate for an aggressive investor? d. Which stock would be most appropriate for someone seeking a combination of safety and earnings?
A. mid- large- small B. Stock Y because the higher the firm's earnings growth rate, the higher the firm's P/E ratio. These companies also tend to pay low or no dividends in order to put the funds back into the company. C. Stock Y D. Stock X
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