F3010 quiz 1
The _____ tax rate is equal to total taxes divided by total taxable income.
average
Which one of the following is a positively sloped linear function that is created when expected returns are graphed against security betas?
security market line
The principle of diversification tells us that:
spreading an investment across many diverse assets will eliminate some of the total risk.
Cash flow each year for NWC
(- Change to NWC) NWC = current assets - current liabilities•If NWC increases, you need to put cash into the business•If NWC decreases, you can recognize cash coming out•The amount in or out is the cash flow from change to NWC If I must increase NWC, I put cash into the business (-)•At the end of the project, I can pull all NWC out (+)
Three chief characteristics of Unit investment trusts
(1) the sponsor pools securities, and then sells public shares in the trust, (2) the portfolio is fixed for the life of the fund, and (3) most are invested in fixed-income portfolios.
Capital gains yield
(ending price -beginning price) / beginning price
Net Working Capital
***NWC = current assets - current liabilities *** increase of NWC turns into investment for firm
Which one of the following is an example of a sunk cost?
1200 to repair a machine
The fee that mutual funds use to help pay for advertising and promotional literature is called a
12b-1 fee front and back end cover sales force comp
ExplanationItem 10Item 10 4.76 of 4.76 points awarded Item Scored Parker & Stone, Inc., is looking at setting up a new manufacturing plant in South Park to produce garden tools. The company bought some land 5 years ago for $4 million in anticipation of using it as a warehouse and distribution site, but the company has since decided to rent these facilities from a competitor instead. If the land were sold today, the company would net $9.6 million. The company wants to build its new manufacturing plant on this land; the plant will cost $14.2 million to build, and the site requires $1,248,000 worth of grading before it is suitable for construction. Required : What is the proper cash flow amount to use as the initial investment in fixed assets when evaluating this project?
9.6 mil+14.2 mil+ 1248000= 25048000
Total percentage return
= dividend yield + capital gains yield the sum of the current income received plus the change in value of the asset, divided by the initial investment.
Total dollar return
= income from investment + capital gain (loss) due to change in price the sum of the current income received plus the change in value of the asset, in dollars.
Growing Perpetuity
A growing stream of cash flows that lasts forever
Growing Annuity
A growing stream of cash flows with a fixed maturity
Which of the following should be treated as an incremental cash flow when computing the NPV of an investment?
A. reduction in the sales of a company's other products caused by the investment. B. Expenditure on plant and equipment that has not yet been made and will be made only if the project is accepted. D. Annual depreciation expense from the investment.( tax effect only F. Resale value of plant and equipment at the end of the project's life. G. Salary and medical costs for production personnel who will be employed only if the project is accepted.
Which one of the following is a current liability?
Account payable to a supplier that is due next week
Which one of the following accounts is the most liquid?
Accounts Receivable
What is an Exchange-traded fund? Give two examples of specific ETFs. What are some advantages they have over ordinary open-end mutual funds? What are some disadvantages
Advantages - 1. ETFs may be bought and sold during the trading day at prices that reflect the current value of the underlying index. This is different from ordinary open-end mutual funds, which are bought or sold only at the end of the day NAV. 2. ETFs can be sold short. 3. ETFs can be purchased on margin. 4. ETFs may have tax advantages. Managers are not forced to sell securities from a portfolio to meet redemption demands, as they would be with open-end funds. Small investors simply sell their ETF shares to other traders without affecting the composition of the underlying portfolio. Institutional investors who want to sell their shares receive shares of stock in the underlying portfolio. 5. ETFs may be cheaper to buy than mutual funds because they are purchased from brokers. The fund doesn't have to incur the costs of marketing itself, so the investor incurs lower management fees. Disadvantages - 1. ETF prices can differ from NAV by small amounts because of the way they trade. This can lead to arbitrage opportunities for large traders. 2. ETFs must be purchased from brokers for a fee. This makes them more expensive than mutual funds that can be purchased at NAV.
The Balance Sheet
An accountant's snapshot of the firm's accounting value at a specific point in time The Balance Sheet Identity is:Assets ≡ Liabilities + Stockholders' Equity Assets are listed in order of liquidity•The amount of time it would take to convert them to cash in an operating business•Obviously cash and A/R are more liquid than property plant and equipment.•Liabilities are listed in the order in which they come due
Example: you buy a tractor for $120k. •This has a 3-year schedule for depreciation of: 0.3333, 0.4445, 0.1481, 0.0741. •What is your depreciation expense each year?
Answer: Y1=$40,000; Y2=$53,340; Y3=$17,772; Y4=$8,892
Which one of the following measures the amount of systematic risk present in a particular risky asset relative to the systematic risk present in an average risky asset?
Beta
Fama-French 3-factors
Beta [mixed evidence]•Small-stock effect•Return difference between small and large cap stocks•Value effect•Return difference between value and growth oriented stocks•Also•Momentum effect [Carhart's 4thfactor]•Return difference between recent winners and losers
Beta (β)
Beta describes the relationship between the movement of an individual asset and the movement of the market as a whole•Total risk of each individual security is no longer relevant, only the systematic component counts•β= Covariance of a risky asset with the market portfolio
How do you maximize shareholder value?By addressing these three questions:
Capital Budgeting•"In what long-lived assets should the firm invest?" (book)•What should we buy?• Capital Structure•"How can the firm raise cash for required capital expenditures?" (book)•How do we pay for what we buy?• Net Working Capital •"How should short-term operating cash flows be managed?" (book)•How much cash do I need in my cash register/wallet/account? •All built on a foundation of accounting and TVM knowledge And we view 1 -3 through the lens of "How will these decisions affect the per share value of the company (or existing equity)?"
F. Resale value of plant and equipment at the end of the project's life.G. Salary and medical costs for production personnel who will be employed only if the project is accepted.
Cash Flow from OperationsOCF = EBIT -Taxes + Depreciation + (Interest?)•Cash Flow(s) from buying or selling major assetsoIt costs money to buy a business, build a factory, etc.oWe can sell the assets at the end, but need to consider taxes (ATSV)•Changes in Net Working Capital•When we first start, we have to put cash in the register and inventory on the shelves•We should get this $$ back at the end
IncrementalCashFlows
Cash flows matter—not accounting earnings.•Incrementalcash flows matter.•Opportunity costs matter.•Side effects like synergy, cannibalism and erosion matter.•Taxes matter: we want incremental after-tax cash flows. •Inflation matters (we won't cover much).•Sunk costs don'tm a t t e r.
Examples of reconciling items
Depreciation (most common example)•You never write a check made out to "depreciation."•Affects both OCF, and sale of fixed assets (ATSV)• Receivables/Payables• Accounting recognizes revenues and expenses at time of transfer of goods/services•Need to ask if cash was exchanges at the same time•OCFs look like (i.e. assume) all cash, so net working capital is done to correct and/or offset
The depreciation tax shield is the depreciation times the tax rate, so:
Depreciation tax shield = TC(Depreciation) Depreciation tax shield = .25($102,500) Depreciation tax shield = $25,625 The depreciation tax shield shows us the increase in OCF by being able to expense depreciation.
The "Rate" is driven by:
Discount rate, rate of return, cost of capital, WACC, hurdle rate... Current opportunity cost of money in the market•Inflation•Compensation for the risk of the investment
Solve for future value
FV(rate,nper,pmt,pv,type) =Cash flow (1+rate)^time
importance of financial markets
Financial markets allow companies, governments and individuals to increase their utility (economics term for being better off)Savers have the ability to invest in financial assets so that they can defer consumption and earn a return to compensate them for doing soBorrowers have better access to the capital that is available so that they can invest in productive assetsThe importance of "making these markets" cannot be emphasized enough•Financial markets also provide us with information about the returns that are required for various levels of risk•This information tells us the "rate" to use to discount our cash flows
To calculate depreciation for any given year:
Find table for that asset class •Find entry for that year: entry is percent of purchase price you can deduct that year.•Multiply entry by purchase price of the asset
You are investing $100 today in a savings account. Which one of the following terms refers to the total value of this investment one year from now?
Future value
Discuss the consistency of mutual fund performance results, as studied by Goetzmann and Ibbotson (1994) and Malkiel (1995).
Goetzmann and Ibbotson found that, of mutual funds that performed in the top half of their categories during an initial period, 62% remained "winners" during the subsequent two-year period. The other 38% became "losers". Of the funds that performed in the bottom half of their categories during the initial period, 63.4% remained "losers" in the subsequent two-year period, while 36.6% became "winners". If performance were purely random, the percentages would be 50%. If performance were due entirely to the skill of the managers, all winners should remain winners and all losers should remain losers. The results of the study indicate that there seems to be some skill involved in fund performance trends. Malkiel broke his study into two time periods. For the 1970s he found results similar to Goetzmann and Ibbotson. For the 1980s his percentages were much closer to 50%, which indicates that performance seemed to be more random during this period. Malkiel used one-year returns rather than two-year returns.
Kelley's Baskets makes handmade baskets and is currently considering making handmade wreaths as well. Which one of the following is the best example of an incremental operating cash flow related to the wreath project?
Hiring additional employees to handle the increased workload should the firm accept the wreath project
period rate
Period rate = APR / number of periods per year• You should NEVER divide the effective rate by the number of periods per year -it will NOT give you the period rate
Which one of the following is an expense for accounting purposes but is not an operating cash flow for financial purposes?
Interest expense
Discuss the taxation of mutual fund income
Investment returns of mutual funds are granted "pass-through status" under the U.S. tax code, meaning that taxes are paid only by the investor in the mutual fund, not by the fund itself. The income is treated as passed through to the investor as long as all income is distributed to shareholders. Investors will pay taxes at the appropriate rate depending on the type of income. One drawback is that investors cannot time the sale of securities for maximum tax advantage, unless the funds are held in tax-deferred retirement accounts.
Which one of the following is an example of systematic risk?
Investors panic causing security prices around the globe to fall precipitously
The Capital Asset Pricing Model (CAPM)
Investors receive no premium for risks that can easily be eliminated•Since asset-specific risk (unsystematic risk) can be eliminated by holding a well diversified portfolio, return only based upon market risk (systematic risk)•Market risk of an asset is measured by Beta (β) E(Ri) = Rf+ Bi[E(Rm)-Rf] CAPM includes the market risk premium•A.K.A. the equity risk premium•Key driver of the financial future•Reasons it might be lower•Lower taxes today•Buybacks today•Economic stability today•Lower transaction costs today
Managing Managers
Managerial compensation•Incentives can be used to align management and stockholder interests•The incentives need to be structured carefully to make sure that they achieve their intended goal•Corporate control•The threat of a takeover may result in better management•Other stakeholders
Amortization of Loans
Many loans require payments of both interest and principal•But a principal payment:•Reduces amount of loan•Which reduces interest owed per period•So for a fixed payment:•The interest paid goes down•The principal paid (per payment) goes up•This is called the amortization of the loan:•Balance sheet effect: debt decreases•Income statement effect: interest decreases, but less interest tax deduction•Plus usual effects (payment reduces cash on hand on B/S)
Changes in Net Working Capital
Many projects require an increase in NWC (inventory, receivables, and other current assets) when initiated; this is a cash outlay at the beginning of the project•Don't forget: when possible, reduce NWC at the end of a project--this is a cash inflow at the end of the project•Take cash out of business, collect receivables, sell off inventory
The Income Statement
Measures financial performance over a specific period of time•The accounting definition of income is:Revenue - Expenses ≡Income The operations section of the income statement reports the firm's revenues and expenses from principal operations. The non-operating section of the income statement includes all financing costs, such as interest expense.
MACRS
Modified Accelerated Cost Recovery System•Given by the IRS•Based on the "class" of asset -7 classes
Solve for Number of Periods
NPer(rate, pmt, pv, fv, type)
The OCF for the company is:
OCF = EBIT + Depreciation − Taxes OCF = $135,200 + 102,500 − 33,800 OCF = $203,900
OCF equation
OCF =Sales - Costs = EBDIT EBDIT - Depreciation = EBIT EBIT - Interest = EBT EBT - Taxes = Net Income Net Income + Interest + Depreciation = OCF
Operating cash flow equation
Operating Cash Flow: EBIT$219 + Depreciation$90 -Current Taxes$71= OCF$238
Which term relates to the cash flow that results from a company's ongoing, normal business activities?
Operating cash flow
Present Value
Or in Excel: =PV(rate, nper, pmt, fv) (cash flow)/(1+rate)^time
solve for annuity payment
PMT(rate,nper,pv,fv,type)
You want to have $30,000 saved 5 years from now to buy a house. How much less do you have to deposit today to reach this goal if you can earn 3.5 percent rather than 2.5 percent on your savings? Today's deposit is the only deposit you will make to this savings account.
PV = $30,000/1.0355 PV = $25,259.20 PV = $30,000/1.0255 PV = $26,515.63 Difference = $26,515.63 − 25,259.20 Difference = $1,256.43
Tricks to TVM
PV or FV must be appropriately negative (which direction is the cash flowing...in or out?).•Rate, NPER, and Pmt must always be on an "apples to apples" basis. For example, if a bank pays 8% APR "compounded semi-annually", your rate in excel would be 4%, and your NPER would be 2 times the number of years Pmt is only used for payments that:•Occur repeatedly at equal increments of time•Are of constant amounts
Solve for periodic interest rate
Rate(nper,pmt,pv,fv,type,guess)Solve for present
Buying and Selling Assets
Refers to fixed/durable assets, not office supplies•Purchase:•Normally designated year 0•Equal to cost of the thing purchased•Sale:•Normally at the end of last year of operation•NOT equal to sales price (find after-tax salvage value ATSV)
Systematic:
Risk factors that affect a large number of assets•Also known as non-diversifiable risk or market risk•Includes such things as changes in GDP, inflation, interest rates, etc. The portion we can't avoid, and therefore for which we expect to be compensated•Measured in units of Beta•Β= 0 implies no (systematic) risk...when no risk at all known as "risk free"•B = 1 normalized to the risk of the market (fully diversified portfolio)
Unsystematic:
Risk factors that affect a limited number of assets•Also known as idiosyncratic/unique/asset-specific risk•Includes such things as labor strikes, part shortages, etc.
Of the following types of ETFs, an investor that wishes to invest in a diversified portfolio that tracks the
SPY- SP500 DIA- dow jones industrials QQQQ- nasdaq IWM- russell 2000 VTI- wilshire EWJ- france & japan
Which one of the following best illustrates erosion as it relates to a hot dog stand located on the beach?
Selling fewer hot dogs because hamburgers were added to the menu
Continuous Compounding
Sometimes investments or loans are figured based on continuous compounding•EAR = eq- 1 The e is a special function on the calculator normally denoted by ex
The current book value of a fixed asset that was purchased two years ago is used in the computation of which one of the following?
Tax due on the current salvage value of that asset
Taxes
Taxes impact income; important to financial decisions Taxes come from various sources: ◦Federal, state, excise Taxes are always changing Marginal vs. average tax rates ◦Marginal - the percentage paid on the next dollar earned ◦Average = the tax bill / taxable income Financial decisions are incremental; applicable tax rate is the marginalrate
Risk Premiums
The "extra" return earned for taking on risk•Treasury bills are considered to be risk-free•The risk premium is the return over and above the risk-free rate
Which one of the following best describes the concept of erosion?
The cash flows of a new project that come at the expense of a firm's existing cash flows
The value of a firm/investment/asset should be seen as...
The discounted present value of the cash flows.•Cash flows because we care about cash•Discounted because "time is money"•Cash later worth less than cash today
Expected Return of a Portfolio of Assets
The expected return of a portfolio of assets is the weighted average of the returns:RP= w1*R1+ w2*R2+ w3*R3+ ... average across a (possibly) wide range of actual possibilities!!!
What is the goal of the firm, also known as the goal of financial management?
The goal of financial management is to maximize the current value per share of the existing stock."...Or for a sole proprietorship (private company), to maximize the value of the existing owner's equity.
This afternoon, you deposited $1,000 into a retirement savings account. The account will compound interest at 6 percent annually. You will not withdraw any principal or interest until you retire in 40 years. Which one of the following statements is correct?
The present value of this investment is equal to $1,000.
Asset Allocation Funds
These funds also hold both stocks and bonds, but vary the proportions in accord with the portfolio manager's forecast of the relative performance of each sector. These funds are engaged in market timing and are therefore higher risk
Specialized Sector Funds
These funds concentrate on a particular industry or industries. Held alone, they are not well diversified and may be higher risk
Money Market Funds
These funds invest in money market securities. They usually offer check-writing features and NAV is fixed at $1 per share, so that there are no tax implications associated with redemption of shares. They provide low risk, relatively low return and high liquidity.
Equity Funds
These funds invest primarily in stock, although they may hold other types of securities at the manager's discretion. They may also hold some money market securities to provide liquidity for share redemption. Typical objectives are capital gain, growth,and income and security.
Balanced Funds
These funds may substitute for an investor's entire portfolio. They hold a mix of fixed-income and equity securities. Income funds try to maintain safety of principal but achieve liberal current income, while balanced funds seek to minimize risk.
Bond Funds
These funds specialize in fixed-income securities such as corporate bonds, Treasury bonds, mortgage-backed securities or municipal bonds. These funds may specialize by maturity or credit risk as well.
Index Funds
These funds try to match the performance of a broad market index. They buy shares in securities included in a particular index in proportion to the security's representation in that index. Index funds are a low-cost way for small investors to pursue a passive investment strategy.
Which of the following is true regarding equity mutual funds
They invest primarily in stock. II) They may hold fixed-income securities as well as stock. III) Most hold money market securities as well as stock. IV) Two types of equity funds are income funds and growth funds.
Annual Percentage Rate
This is the (annual) rate that is generally required to be quoted by law•Truth in Lending Laws•Ironic, because APR is misleading!!!• By definition APR = period rate times the number of periods per year
Effective Annual Rate (EAR)
This is the actual rate paid (or received) after accounting for compounding that occurs during the year•If you want to compare two alternative investments with different compounding periods, you need to compute the EAR and use that for comparison. EAR= [1+(APR/m)]^m -1 APR is the quoted rate, and m is the number of compounding periods per year
Total Risk
Total risk = systematic risk + unsystematic risk•The standard deviation of returns is a measure of total risk.•For well-diversified portfolios, unsystematic risk is very small.•Consequently, the total risk for a diversified portfolio is essentially equivalent to the systematic risk. In a large portfolio the idiosyncratic risks are effectively diversified away, but the systematic portion of the risk is not.
Annuity - Finding the Rate Without a Financial Calculator
Trial and Error ProcessChoose an interest rate and compute the PV of the payments based on this rateCompare the computed PV with the actual loan amountIf the computed PV > loan amount, then the interest rate is too lowIf the computed PV < loan amount, then the interest rate is too highAdjust the rate and repeat the process until the computed PV and the loan amount are equal
Variance and Standard Deviation
Variance and standard deviation measure the volatility of asset returns•The greater the volatility, the greater the uncertainty•Historical variance = sum of squared deviations from the mean / (number of observations - 1)•Standard deviation = square root of the variance
Suppose your firm earns $12 million in taxable income
What is the firm's tax liability?• .15(50) + .25(75 - 50) + .34(100 - 75) + .39(335 - 100) + .34(10,000 - 335) + .35(12,000-10,000)= $4,100K What is the average tax rate?• 4,100k/12,000k = 34.17% What is the marginal tax rate?• 35% If you are considering a project that will increase the firm's taxable income by $1 million, what tax rate should you use in your analysis 35%
After Tax Salvage Value (ATSV)
Whenever you sell a long-lived asset, there are tax implications that must be considered if: Sales price ≠ Book ValueBook Value = Purchase price -Accumulated Depreciation•The net cash flow from the sale of the asset is:ATSV = Sales price -Tax on Salvage After Tax Salvage Value = Salvage Value ±Tax on Salvage Tax on Salvage = Tax Rate x Gain/Loss on Sale Gain/Loss = Salvage Value -Book Va l u e Book Value = Original Purchase - Accum. Depr.
Things to Remember
You ALWAYS need to make sure that the interest rate and the time period match.If you are looking at annual periods, you need an annual rate.If you are looking at monthly periods, you need a monthly rate.•If you have an APR based on monthly compounding, you have to use monthly periods for lump sums, or adjust the interest rate appropriately if you have payments other than monthly•In Excel, always make sure 3 things match in regards to time/frequency: Rate, NPER, and PMT
Multiple Cash Flows Using a Spreadsheet
You can use the NPV function in Excel to find the present value of a set or series of cash flows:•In Excel: =NPV(rate, CF1, CF2, CF3...)+CF0•Rate is the discount rate•CF1 is the cash flow in period (year) 1, 2 in year 2, and so on...•Remember: in Excel (for NPV) the year 0 cash flow goes outside the formula
The depreciation tax shield is best defined as the:
amount of tax that is saved because of the depreciation expense.
Geometric average
average compound return per period over multiple periods The geometric average will be less than the arithmetic average unless all the returns are equal The geometric average is overly pessimistic for short horizons
Changes in the net working capital requirements:
can affect the cash flows of a project every year of the project's life.
Current Assets
cash and other assets that are expected to be converted to cash within the year. •Cash•Marketable securities•Accounts receivable•Inventory
the porportion of mutual funds specialized in
common stock=45% bonds=25% money market securities=23% hybrid(bond and stock)=7%
The interest earned on both the initial principal and the interest reinvested from prior periods is called:
compound interest
A business created as a distinct legal entity and treated as a legal "person" is called a(n):
corporation
Sam just opened a savings account paying 3.5 percent interest, compounded annually. After four years, the savings account will be worth $5,000. Assume there are no additional deposits or withdrawals. Given this, Sam:
could have deposited less money today and still had $5,000 in four years if the account paid a higher rate of interest.
Arithmetic average
return earned in an average period over multiple periods The arithmetic average is overly optimistic for long horizons
Net working capital is defined as:
current assets minus current liabilities.
Steve just computed the present value of a $10,000 bonus he will receive next year. The interest rate he used in his computation is referred to as the:
discount rate
The process of determining the present value of future cash flows in order to know their value today is referred to as:
discounted cash flow valuation
Dividend yield
dividend / beginning price
Treasury bills
excellent examples of pure discount loans. The principal amount is repaid at some future date, without any periodic interest payments.•
Which one of the following is most directly affected by the level of systematic risk in a security?
expected rate of return
You own a stock that you think will produce a return of 11 percent in a good economy and 3 percent in a poor economy. Given the probabilities of each state of the economy occurring, you anticipate that your stock will earn 6.5 percent next year. Which one of the following terms applies to this 6.5 percent?
expected return
Annuity
finite series of equal payments that occur at regular intervalsIf the first payment occurs at the end of the period, it is called an ordinary annuity If the first payment occurs at the beginning of the period, it is called an annuity due PV= [(1-(1/1+r^t)/r]
Your grandmother has promised to give you $10,000 when you graduate from college. If you speed up your graduation by one year and graduate two years from now rather than the expected three years, the present value of this gift will:
increase
An increase in the interest expense for a firm with a taxable income of $123,000 will:
increase the cash flow from assets.
Depreciation for a tax-paying firm:
increases expenses and lowers taxes.
The difference between a company's future cash flows if it accepts a project and the company's future cash flows if it does not accept the project is referred to as the project's:
incremental cash flows
Perpetuity
infinite series of equal payments PV=C/r
Art invested $100 two years ago at 8 percent interest. The first year, he earned $8 interest on his $100 investment. He reinvested the $8. The second year, he earned $8.64 interest on his $108 investment. The extra $.64 he earned in interest the second year is referred to as:
interest on interest.
The percentage of the next dollar you earn that must be paid in taxes is referred to as the _____ tax rate.
marginal
If a stock portfolio is well diversified, then the portfolio variance:
may be less than the variance of the least risky stock in the portfolio.
Financial Cash Flow
most important item that can be extracted from financial statements is the actual cash flow of the firm. Cash flow received from the firm's assets ("Cash Flow from Assets" or "Free Cash Flow") must equal the cash flows to the firm's creditors and stockholders.CF(A)≡CF(B) + CF(S)•In other words, the cash generated by assets enables the firm to pay its debts and provide a return to shareholders. •Accounting cash flow and financial cash flow are not necessarily equal.
Current Liabilities
obligations that are expected to require cash payment within the year .•Accounts payable•Accrued wages•Ta xe s
The option that is forgone so that an asset can be utilized by a specific project is referred to as which one of the following?
opportunity cost
Commingled funds are
partnerships of investors that pool their funds, which are then managed for a fee.
Diversifying Your Portfolio
portfolio return = weighted average of returns•portfolio variance ≠ weighted average of variances•portfolio β= weighted average of β's
Kurt won a lottery and will receive $1,000 a year for the next 50 years. The current value of these winnings is called the:
present value
Kurt won a lottery and will receive $1,000 a year for the next 50 years. The current value of these winnings is called the:
present value.
Which one of the following is classified as a tangible fixed asset?
production equipment
GL Plastics spent $1,200 last week repairing a machine. This week the company is trying to decide if the machine could be better utilized if they assigned it a proposed project. When analyzing the proposed project, the $1,200 should be treated as which type of cost?
sunk cost
The _____ tells us that the expected return on a risky asset depends only on that asset's nondiversifiable risk.
systemic risk principle
The Agency Problem
the possibility of conflict of interest between the stockholders and management of a firm
Standard deviation measures which type of risk?
total risk
Hedge funds are
typically open only to wealthy or institutional investors, are commonly structured as private partnerships, are only subject to minimal SEC regulation, and can pursue strategies not available to mutual funds such as short selling, heavy use of derivatives, and leverage.
The expected return on a stock given various states of the economy is equal to the:
weighted average of the returns for each economic state.
Risk, Return, and Financial Markets
•We can examine returns in the financial markets to help us determine the appropriate returns on non-financial assets•Lessons from capital market historyThere is a reward for bearing riskThe greater the potential reward, the greater the riskThis is called the risk-return trade-off
