Chapter 12

A. Risk premium

1. Last year, T-bills returned 2 percent while your investment in large-company stocks earned an average of 5 percent. Which one of the following terms refers to the difference between these two rates of return? A. Risk premium B. Geometric return C. Arithmetic D. Standard deviation E. Variance

A. Next year's annual dividend divided by today's stock price.

10. Which one of the following correctly describes the dividend yield? A. Next year's annual dividend divided by today's stock price. B. This year's annual dividend divided by today's stock price. C. This year's annual dividend divided by next year's expected stock price. D. Next year's annual dividend divided by this year's annual dividend. E. The increase in next year's dividend over this year's dividend divided by this year's dividend.

C. Decreased proportionately with the dividend decrease.

11. Bayside Marina just announced it is decreasing its annual dividend from $1.64 per share to $1.50 per share effective immediately. If the dividend yield remains at its pre-announcement level, then you know the stock price: A. Was unaffected by the announcement. B. Increased proportionately with the dividend decrease. C. Decreased proportionately with the dividend decrease. D. Decreased by $.14 per share. E. Increased by $.14 per share.

C. Capital gains yield and total return

13. Which of the following yields on a stock can be negative? A. Dividend yield B. Capital gains yield C. Capital gains yield and total return D. Dividend, capital gains, and total return E. Dividend yield and total return

C. 2010-2013

22. Which one of the following time periods is associated with low rates of inflation? A. 1941-1942 B. 1974-1976 C. 2010-2013 D. 1980-1984 E. 1988-1990

E. Between 15 and 20 percent

25. What was the highest annual rate of inflation during the period 1926-2013? A. Between 0 and 3 percent B. Between 3 and 5 percent C. Between 5 and 10 percent D. Between 10 and 15 percent E. Between 15 and 20 percent

D. 16 percent

37. What is the probability that small-company stocks will produce an annual return that is more than one standard deviation below the average? A. 1.0 percent B. 2.5 percent C. 5.0 percent D. 16 percent E. 32 percent

A. Weak

50. Which form of market efficiency would most likely offer the greatest profit potential to an outstanding professional stock analyst? A. Weak B. Semi weak C. Semi strong D. Strong E. Perfect

B. An increase in an unrealized capital gain will increase the capital gains yield.

12. Which one of the following statements related to capital gains is correct? A. The capital gains yield includes only realized capital gains. B. An increase in an unrealized capital gain will increase the capital gains yield. C. The capital gains yield must be either positive or zero. D. The capital gains yield is expressed as a percentage of a security's total return. E. The capital gains yield represents the total return earned by an investor.

C. Minus the inflation rate.

14. The real rate of return on a stock is approximately equal to the nominal rate of return: A. Multiplied by (1 + inflation rate). B. Plus the inflation rate. C. Minus the inflation rate. D. Divided by (1 + inflation rate). E. Divided by (1 - inflation rate).

C. Less than.

15. As long as the inflation rate is positive, the real rate of return on a security will be ____ the nominal rate of return. A. Greater than. B. Equal to. C. Less than. D. Greater than or equal to. E. Unrelated to.

C. Smallest twenty percent of the firms listed on the NYSE.

16. Small-company stocks, as the term is used in the textbook, are best defined as the: A. 500 newest corporations in the U.S. B. Firms whose stock trades otc. C. Smallest twenty percent of the firms listed on the NYSE. D. Smallest twenty-five percent of the firms listed on NASDAQ. E. Firms whose stock is listed on NASDAQ.

B. U.S. Treasury bills provided a positive rate of return each and every year during the period.

17. Which one of the following statements is a correct reflection of the U.S. markets for the period 1926-2013? A. U.S. Treasury bill returns never exceeded a 9 percent return in any one year during the period. B. U.S. Treasury bills provided a positive rate of return each and every year during the period. C. Inflation equaled or exceeded the return on U.S. Treasury bills every year during the period. D. Long-term government bonds outperformed U.S. Treasury bills every year during the period. E. National deflation occurred at least once every decade during the period.

E. U.S. Treasury bills

19. Which one of the following categories of securities had the lowest average risk premium for the period 1926-2013? A. Long-term government bonds B. Small company stocks C. Large company stocks D. Long-term corporate bonds E. U.S. Treasury bills

E. The average squared difference between the actual returns and the arithmetic average return.

2. Which one of the following best defines the variance of an investment's annual returns over a number of years? A. The average squared difference between the arithmetic and the geometric average annual returns. B. The squared summation of the differences between the actual returns and the average geometric return. C. The average difference between the annual returns and the average return for the period. D. The difference between the arithmetic average and the geometric average return for the period. E. The average squared difference between the actual returns and the arithmetic average return.

E. Small-company stocks

20. Which one of the following categories of securities had the most volatile annual returns over the period 1926-2013? A. Long-term corporate bonds B. Large-company stocks C. Intermediate-term government bonds D. U.S. Treasury bills E. Small-company stocks

E. U.S. Treasury bills had a positive average real rate of return.

21. Which one of the following statements correctly applies to the period 1926-2013? A. Large-company stocks earned a higher average risk premium than did small-company stocks. B. The average inflation rate exceeded the average return on U.S. Treasury bills. C. Large-company stocks had an average annual return of 14.7 percent. D. Inflation averaged 2.6 percent for the period. E. U.S. Treasury bills had a positive average real rate of return.

C. The annual rate of return was always positive.

23. Which one of the following statements concerning U.S. Treasury bills is correct for the period 1926- 2013? A. The annual rate of return always exceeded the annual inflation rate. B. The average risk premium was .2 percent. C. The annual rate of return was always positive. D. The average excess return was 1.1 percent. E. The average real rate of return was zero.

C. Long-term government bonds, long-term corporate bonds, intermediate-term government bonds

24. Which one of the following is a correct ranking of securities based on the volatility of their annual returns over the period of 1926-2013? Rank from highest to lowest. A. Large-company stocks, U.S. Treasury bills, long-term government bonds B. Small-company stocks, long-term corporate bonds, large-company stocks C. Long-term government bonds, long-term corporate bonds, intermediate-term government bonds D. Large-company stocks, small-company stocks, long-term government bonds E. Intermediate-term government bonds, long-term corporate bonds, U.S. Treasury bills

B. Return on a risky security minus the risk-free rate.

26. The excess return is computed as the: A. Return on a security minus the inflation rate. B. Return on a risky security minus the risk-free rate. C. Risk premium on a risky security minus the risk-free rate. D. Risk-free rate plus the inflation rate. E. Risk-free rate minus the inflation rate.

D. Between 2.8 and 3.2 percent

28. What was the average rate of inflation over the period of 1926-2013? A. Less than 2.0 percent B. Between 2.0 and 2.4 percent C. Between 2.4 and 2.8 percent D. Between 2.8 and 3.2 percent E. Greater than 3.2 percent

C. Between 3 and 4 percent

29. Assume you invest in a portfolio of U. S. Treasury bills and that the portfolio will earn a rate of return similar to the average return on U.S. Treasury bills for the period 1926-2013. What rate of return should you expect to earn? A. Less than 2 percent B. Between 2 and 3 percent C. Between 3 and 4 percent D. Between 4 and 5 percent E. More than 5 percent

B. Volatility

3. Standard deviation is a measure of which one of the following? A. Average rate of return B. Volatility C. Probability D. Risk premium E. Real returns

B. 5

30. The average annual return on small-company stocks was about _____ percent greater than the average annual return on large-company stocks over the period 1926-2013. A. 3 B. 5 C. 7 D. 9 E. 11

D. U.S. Treasury bills

31. Which one of the following had the least volatile annual returns over the period of 1926-2013? A. Large-company stocks B. Inflation C. Long-term corporate bonds D. U.S. Treasury bills E. Intermediate-term government bonds

A. Long-term government bonds had more volatile annual returns than did the long-term corporate bonds.

32. Which one of the following statements is correct based on the period 1926-2013? A. Long-term government bonds had more volatile annual returns than did the long-term corporate bonds. B. The standard deviation of the annual rate of inflation was less than 3 percent. C. The geometric average annual return on large-company stocks was higher than the average arithmetic return on those same stocks. D. The risk premium on small-company stocks was less than 10 percent. E. The risk Premium on all U.S. government securities is 0 percent. Refer to sections 12.3 and 12.4.

E. High standard deviation, large risk premium

33. Generally speaking, which of the following most correspond to a wide frequency distribution? I. relatively low risk II. relatively low rate of return III. relatively high standard deviation IV. relatively large risk premium A. High standard deviation, low rate of return B. Low rate of return, large risk premium C. Small risk premium, high rate of return D. Small risk premium, low standard deviation E. High standard deviation, large risk premium

B. Increase the risk premium.

34. To convince investors to accept greater volatility, you must: A. Decrease the risk premium. B. Increase the risk premium. C. Decrease the real return. D. Decrease the risk-free rate. E. Increase the risk-free rate.

C. Decrease in the 68 percent probability range of returns

35. If the variability of the returns on large-company stocks were to decrease over the long-term, you would expect which one of the following to occur as a result? A. Increase in the risk premium B. Increase in the average long-term rate of return C. Decrease in the 68 percent probability range of returns D. Increase in the standard deviation E. Increase in the geometric average rate of return

C. Long-term government bonds had a lower return but a higher standard deviation on average than did long-term corporate bonds.

36. Which one of the following statements is correct based on the historical record for the period 1926-2013? A. The standard deviation of returns for small-company stocks was double that of large-company stocks. B. U.S. Treasury bills had a zero standard deviation of returns because they are considered to be risk-free. C. Long-term government bonds had a lower return but a higher standard deviation on average than did long-term corporate bonds. D. Inflation was less volatile than the returns on U.S. Treasury bills. E. Long-term government bonds underperformed intermediate-term government bonds.

D. Small-company stocks have lost as much as 50 percent and gained as much as 100 percent in a single year.

39. The historical record for the period 1926-2013 supports which one of the following statements? A. When large-company stocks have a negative return, they will have a negative return for at least two consecutive years. B. The return on U.S. Treasury bills exceeds the inflation rate by at least .5 percent each year. C. There was only one year during the period when double-digit inflation occurred. D. Small-company stocks have lost as much as 50 percent and gained as much as 100 percent in a single year. E. The inflation rate was positive each year throughout the period.

C. Normal distribution

4. Which one of the following is defined by its mean and its standard deviation? A. Arithmetic nominal return B. Geometric real return C. Normal distribution D. Variance E. Risk premium

B. Bonds are generally a safer investment than are stocks.

40. Which of the following statements are true based on the historical record for 1926-2013? A. Risk-free securities produce a positive real rate of return each year. B. Bonds are generally a safer investment than are stocks. C. Risk and potential reward are inversely related. D. The normal distribution curve for large-company stocks is narrower than the curve for small-company stocks. E. Returns are more predictable over the short term than they are over the long term.

B. Overestimate; underestimate

41. Estimates of the rate of return on a security based on the historical arithmetic average will probably tend to _____ the expected return for the long-term and estimates using the historical geometric average will probably tend to _____ the expected return for the short-term. A. Overestimate; overestimate B. Overestimate; underestimate C. Underestimate; overestimate D. Underestimate; underestimate E. Accurately; accurately

E. Project future rates of return.

42. The primary purpose of Blume's formula is to: A. Compute an accurate historical rate of return. B. Determine a stock's true current value. C. Consider compounding when estimating a rate of return. D. Determine the actual real rate of return. E. Project future rates of return.

E. The information was expected

43. Which one of the following is the most likely reason why a stock price might not react at all on the day that new information related to the stock's issuer is released? Assume the market is semi strong form efficient. A. Company insiders were aware of the information prior to the announcement B. Investors do not pay attention to daily news C. Investors tend to overreact D. The news was positive E. The information was expected

C. Zero net present values for all stock investments

44. Which one of the following is most indicative of a totally efficient stock market? A. Extraordinary returns earned on a routine basis B. Positive net present values on stock investments over the long-term C. Zero net present values for all stock investments D. Arbitrage opportunities which develop on a routine basis E. Realizing negative returns on a routine basis

D. A firm will generally receive a fair price when it issues new shares of stock if the market is efficient.

45. Which one of the following statements is correct concerning market efficiency? A. Real asset markets are more efficient than financial markets. B. If a market is efficient, arbitrage opportunities should be common. C. In an efficient market, some market participants will have an advantage over others. D. A firm will generally receive a fair price when it issues new shares of stock if the market is efficient. E. New information will gradually be reflected in a stock's price to avoid any sudden change in the price of the stock if the market is efficient.

B. The markets are continually reacting to new information.

46. Efficient financial markets fluctuate continuously because: A. The markets are continually reacting to old information as that information is absorbed. B. The markets are continually reacting to new information. C. Arbitrage trading is limited. D. Current trading systems require human intervention. E. Investments produce varying levels of net present values.

D. Strong form efficient.

47. Inside information has the least value when financial markets are: A. Weak form efficient. B. Semi weak form efficient. C. Semi strong form efficient. D. Strong form efficient. E. Inefficient.

C. Ineffective .

48. Evidence seems to support the view that studying public information to identify mispriced stocks is: A. Effective as long as the market is only semi strong form efficient. B. Effective provided the market is only weak form efficient. C. Ineffective . D. Effective only in strong form efficient markets. E. Ineffective only in strong form efficient markets.

E. Markets tend to respond quickly to new information.

49. Which one of the following statements related to market efficiency tends to be supported by current evidence? A. It is easy for investors to earn abnormal returns. B. Short-run price movements are easy to predict. C. Markets are most likely only weak-form efficient. D. Mispriced stocks are easy to identify. E. Markets tend to respond quickly to new information.

D. Geometric

5. The average compound return earned per year over a multiyear period is called the _____ average return. A. Arithmetic B. Standard C. Variant D. Geometric E. Real

C. Semi strong

51. You are aware that your neighbor trades stocks based on confidential information he overhears at his workplace. This information is not available to the general public. This neighbor continually brags to you about the profits he earns on these trades. Given this, you would tend to argue that the financial markets are at best _____ form efficient. A. Weak B. Semi weak C. Semi strong D. Strong E. Perfect

D. Strong

52. The U.S. Securities and Exchange Commission periodically charges individuals with insider trading and claims those individuals have made unfair profits. Given this, you would be most apt to argue that the markets are less than _____ form efficient. A. Weak B. Semi weak C. Semi strong D. Strong E. Perfect

B. Make the markets increasingly more efficient.

53. Individual investors who continually monitor the financial markets seeking mispriced securities: A. Earn excess profits on all of their investments. B. Make the markets increasingly more efficient. C. Are never able to find a security that is temporarily mispriced. D. Are overwhelmingly successful in earning abnormal profits. E. Are always quite successful using only historical price information as their basis of evaluation.

A. Arithmetic

6. The return earned in an average year over a multiyear period is called the _____ average return. A. Arithmetic B. Standard C. Variant D. Geometric E. Real

D. All securities in an efficient market are zero net present value investments.

8. Which one of the following statements best defines the efficient market hypothesis? A. Efficient markets limit competition. B. Security prices in efficient markets remain steady as new information becomes available. C. Mispriced securities are common in efficient markets. D. All securities in an efficient market are zero net present value investments. E. Profits are removed as a market incentive when markets become efficient.

D. The capital gains yield is positive.

9. Stacy purchased a stock last year and sold it today for $3 a share more than her purchase price. She received a total of $.75 in dividends. Which one of the following statements is correct in relation to this investment? A. The dividend yield is expressed as a percentage of the selling price. B. The capital gain would have been less had Stacy not received the dividends. C. The total dollar return per share is $3. D. The capital gains yield is positive. E. The dividend yield is greater than the capital gains yield.

C. Small company stocks

18. Which one of the following categories of securities had the highest average return for the period 1926-2013? A. U.S. Treasury bills B. Large-company stocks C. Small company stocks D. Long-term corporate bonds E. Long-term government bonds

C. Small-company stocks

27. Which one of the following earned the highest risk premium over the period 1926-2013? A. Long-term corporate bonds B. U.S. Treasury bills C. Small-company stocks D. Large-company stocks E. Long-term government bonds

A. 8.3 percent

38. Based on the period 1926-2013, the actual real return on large-company stocks has been around: A. 8.3 percent B. 8.7 percent C. 10.4 percent D. 12.3 percent E. 14.8 percent

E. Efficient capital market

Assume all stock prices fairly reflect all of the available information on those stocks. Which one of the following terms best defines the stock market under these conditions? A. Riskless market B. Evenly distributed market C. Zero volatility market D. Blume's market E. Efficient capital market