FN 320 Final

Which of the following statements is FALSE?

Graphically, the line through the risk-free investment and the market portfolio is called the capital market line (CML).

You apply regression analysis between sales(Y) and advertising expenses(X) on all your stores and you obtain the following regression equation: Ŷ = 2000 + 3.5 X If Store A spend $10,000 more on advertising than store B, then what will be predicted in their sales according to the regression equation?

Store B will have $35,000 less sales than store A.

Which of the following statements is FALSE?

The risk premium of a security is equal to the market risk premium divided by the amount of market risk present in the security's returns measured by its beta with the market.

Which of the following statement is correct?

We do not reject the null hypothesis that the intercept is zero because its p-value is greater than 5%.

Which of the following statement is false regarding the test on the β coefficient of Merck?

We do reject the null hypothesis that the β coefficient of Merck is zero because its estimation is 0.4110.

The relative proportion of debt, equity, and other securities that a firm has outstanding constitute its ________.

capital structure

When calculating the WACC, it is a standard practice to subtract ________ to compute the net debt outstanding

cash and risk-free securities

Leverage is the amount of ________ on a firm's balance sheet.

debt

As we increase the number of stocks in a portfolio, the standard deviation of returns of the portfolio ________.

decreases

In regression analysis, the variable that is being predicted is the

dependent variable

Because investors can eliminate unsystematic risk "for free" by diversifying their portfolios, they ________.

do not require a risk premium for bearing it

The expected return of stock is usually ________ the baseline risk-free rate of return that we demand to compensate for inflation and the time value of money.

higher than

R-square in a regression analysis tells us

how much of the variance in the dependent variable can be explained by the regression model.

For the regression equation: Ŷ = 0.028 - 1.5 X, if the variable X decrease by 10, the variable Y would:

increase by 15

As a firm increases its level of debt relative to its level of equity, the firm is ________.

increasing its leverage

Consider the following linear regression equation: (Ri - rf) = ai + bi (RMkt - rf) The bi in the regression

measures the sensitivity of the security to market risk

As we add more uncorrelated stocks to a portfolio where the stocks are held in equal weights, the benefit of diversification is most dramatic ________.

at the outset

The volatility of Home Depot share prices is 20% and that of General Motors shares is 20%. When I hold both stocks in my portfolio, the overall volatility of the portfolio is ________.

not possible to calculate as information is inadequate

Diversification reduces the risk of a portfolio because ________, and some of the risks are averaged out of the portfolio.

stocks do not move identically

The risk premium of a security is determined by its ________ risk and does not depend on its ________ risk.

systematic, unsystematic

Which of the following is NOT a diversifiable, or unsystematic risk?

the risk that oil prices rise, increasing production costs

A firm raised all its capital via equity rather than debt. Such a firm is also referred to as a(n) ________ firm.

unlevered

In general, it is possible to eliminate ________ risk by holding a large portfolio of assets.

unsystematic

A company's stock price jumped when it announced that its revenue had decreased because of the quality issues of its products. This is an example of ________.

unsystematic risk

If you build a large enough portfolio, you can diversify away all ________ risk, but you will be left with ________ risk.

unsystematic, systematic

The S&P 500 index traditionally is a(n) ________ portfolio of the 500 largest U.S. stocks.

value weighted

Holding everything else constant, an increase in cash ________ a firm's net debt.

will decrease

The ________ of a firm's debt can be used as the firm's current cost of debt.

yield to maturity

A linear regression to estimate the relation between General Motors' stock returns and the market's return gives the best fitting line that represents the relation between the stock and the market. The slope of this line is our estimate of ________.

beta

A firm is considering investing in a new project with an upfront cost of $400 million. The project will generate an incremental free cash flow of $50 million in the first year and this cash flow is expected to grow at an annual rate of 3% forever. If the firm's WACC is 12%, what is the value of this project?

$155.6 million

A stock market comprises 4600 shares of stock A and 2000 shares of stock B. Assume the share prices for stocks A and B are $25 and $35, respectively. What is the market capitalization of the market portfolio?

$185,000

The book value of a firm's equity is $100 million and its market value of equity is $200 million. The face value of its debt is $50 million and its market value of debt is $60 million. What is the market value of assets of the firm?

$260 million

A firm incurs $40,000 in interest expenses each year. If the tax rate of the firm is 30%, what is the effective after-tax interest rate expense for the firm?

$28,000.00

Assume General Motors has a weighted average cost of capital of 9%. GM is considering investing in a new plant that will save the company $20 million over each of the first two years, and then $10 million each year thereafter. If the investment is $100 million, what is the net present value (NPV) of the project?

$28.7 million

Suppose you invest in 100 shares of Harley-Davidson (HOG) at $40 per share and 230 shares of Yahoo (YHOO) at $25 per share. If the price of Harley-Davidson increases to $50 and the price of Yahoo decreases to $20 per share, what is the return on your portfolio?

-1.54%

Suppose you have $10,000 in cash and you decide to borrow another $10,000 at a(n) 6% interest rate to invest in the stock market. You invest the entire $20,000 in an exchange-traded fund (ETF) with a 10% expected return and a 20% volatility. Assume that the ETF you invested in returns -10%. Then the realized return on your investment is closest to ________.

-26%

Consider the following returns: Year-End Lowes Realized Return Home Depot IBM 2000 20.0% -14.6% 0.2% 2001 72.7% 4.4% -3.2% 2002 -25.7% -58.1% -27.0% 2003 56.2% 71.3% 27.9% 2004 6.7% 17.3% -5.1% 2005 17.9% 0.9% -11.3% The covariance between Lowes' and Home Depot's returns is closest to ________.

0.10

Assume Lavender Corporation has a market value of $4 billion of equity and a market value of $19.8 billion of debt. What are the weights in equity and debt that are used for calculating the WACC?

0.168, 0.832

Epiphany is an all-equity firm with an estimated market value of $400,000. The firm sells $225,000 of debt and uses the proceeds to purchase outstanding equity. Compute the weight in equity and the weight in debt after the proposed financing and repurchase of equity.

0.44, 0.56

A portfolio comprises Coke (beta of 1.4) and Wal-Mart (beta of 0.8). The amount invested in Coke is $20,000 and in Wal-Mart is $30,000. What is the beta of the portfolio?

1.04

How much variation of Merck's excess returns is explained by the regression model?

10.42% (R-Square)

Assume preferred stock of Ford Motors pays a dividend of $4 each year and trades at a price of $35. What is the cost of preferred stock capital for Ford?

11.4%

SIROM Scientific Solutions has $10 million of outstanding equity and $5 million of bank debt. The bank debt costs 5% per year. The estimated equity beta is 2. If the market risk premium is 9% and the risk-free rate is 3%, compute the weighted average cost of capital if the firm's tax rate is 30%.

15.17%

Your estimate of the market risk premium is 7%. The risk-free rate of return is 4% and General Motors has a beta of 1.6. What is General Motors' cost of equity capital?

15.2%

Your estimate of the market risk premium is 9%. The risk-free rate of return is 3.8% and General Motors has a beta of 1.4. According to the Capital Asset Pricing Model (CAPM), what is its expected return?

16.4%

UPS, a delivery services company, has a beta of 1.6, and Wal-Mart has a beta of 0.9. The risk-free rate of interest is 6% and the market risk premium is 9%. What is the expected return on a portfolio with 40% of its money in UPS and the balance in Wal-Mart?

16.62%

The price of Microsoft is $30 per share and that of Apple is $58 per share. The price of Microsoft increases to $39 per share after one year and to $42 after two years. Also, shares of Apple increase to $66 after one year and to $71 after two years. If your portfolio comprises 100 shares of each security, what is your portfolio return over year 1 and year 2? Assume no dividends are paid.

19.32%, 7.62%

A portfolio has 30% of its value in IBM shares and the rest in Microsoft (MSFT). The volatility of IBM and MSFT are 35% and 30%, respectively, and the correlation between IBM and MSFT is 0.5. What is the standard deviation of the portfolio?

27.78%

Suppose you invest $20,000 by purchasing 200 shares of Abbott Labs (ABT) at $50 per share, 200 shares of Lowes (LOW) at $30 per share, and 100 shares of Ball Corporation (BLL) at $40 per share. Suppose over the next year Ball has a return of 12.5%, Lowes has a return of 21%, and Abbott Labs has a return of -10%. The return on your portfolio over the year is

3.8%

Consider the following returns: Year-End Lowes Realized Return Home Depot IBM 2000 20.0% -14.6% 0.2% 2001 72.7% 4.4% -3.2% 2002 -25.7% -58.1% -27.0% 2003 56.2% 71.3% 27.9% 2004 6.7% 17.3% -5.1% 2005 17.9% 0.9% -11.3% The volatility on Lowes' returns is closest to ________.

35%

A portfolio has three stocks - 240 shares of Yahoo (YHOO), 150 Shares of General Motors (GM), and 40 shares of Standard and Poor's Index Fund (SPY). If the price of YHOO is $30, the price of GM is $30, and the price of SPY is $130, calculate the portfolio weight of YHOO and GM.

42.6%, 26.6%

A firm has outstanding debt with a coupon rate of 8%, seven years maturity, and a price of $1,000. What is the after-tax cost of debt if the marginal tax rate of the firm is 35%

5.2%

Outstanding debt of Home Depot trades with a yield to maturity of 8%. The tax rate of Home Depot is 30%. What is the effective cost of debt of Home Depot?

5.60%

A firm has a pre-tax cost of debt of 9.0%. If the firm has a marginal tax rate of 35%, what is its effective cost of debt?

5.9%

A stock market comprises 4700 shares of stock A and 2300 shares of stock B. Assume the share prices for stocks A and B are $25 and $30, respectively. What proportion of the market portfolio is comprised of stock A?

63.0%

Assume Ford Motor Company is discussing new ways to recapitalize the firm and raise additional capital. Its current capital structure has a 25% weight in equity, 10% in preferred stock, and 65% in debt. The cost of equity capital is 13%, the cost of preferred stock is 9%, and the pretax cost of debt is 8%. What is the weighted average cost of capital for Ford if its marginal tax rate is 40%

7.27%

Your retirement portfolio comprises 100 shares of the Standard & Poor's 500 fund (SPY) and 100 shares of iShares Barclays Aggregate Bond Fund (AGG). The price of SPY is $118 and that of AGG is $97. If you expect the return on SPY to be 11% in the next year and the return on AGG to be 6%, what is the expected return for your retirement portfolio?

8.74%

Consider the following expected returns, volatilities, and correlations: The volatility of a portfolio that is equally invested in Duke Energy and Microsoft is closest to ________.

9.0%

Assume the market value of Fords' equity, preferred stock, and debt are$6 billion, $2 billion, and $13 billion, respectively. Ford has a beta of 1.7, the market risk premium is 8%, and the risk-free rate of interest is 3%. Ford's preferred stock pays a dividend of $4 each year and trades at a price of $30 per share. Ford's debt trades with a yield to maturity of 8.0%. What is Ford's weighted average cost of capital if its tax rate is 30%?

9.48%

You observe that AT&T stock and the S&P 500 have the following weekly returns: WeekAT&T returnS&P 500 return 1 0.005 0.001 2 0.010 0.005 3-0.003-0.005 4-0.005-0.001 If this pattern of stock returns is typical of AT&T stock, and you calculated a beta against the S&P 500, which of the following is true?

AT&T's beta is positive.