FIN 300 Exam 2

Which of the following bonds will have the greatest price sensitivity changes in yield? That is, which bond will experience that largest percentage change in price for a given change in yield? Assume all listed bonds have the same face value and credit rating.

A 10-year, 2% coupon bond.

Which of the following bonds will have the greatest price sensitivity to changes in yield? That is, which bond will experience the largest percentage change in price for a given change in yield? Assume all listed bonds have the same face value and credit rating.

A 30-year 5% coupon bond.

Which of the following statements about how bond prices change over time is true?

A bond's price tends to move closer to face value as the maturity date gets closer.

Which of the following statements about preferred stock is FALSE?

A share of common stock offers the owner a right to vote on the corporation's major decisions.

A stock with a beta of 2 tends to have returns that are _________________.

About twice as volatile than the market's returns.

Which of the following is true about calculating a firm's WACC?

All of these

Which of the following is true about market risk?

All of these

Which of the following statements about common stock is TRUE?

All of these

Which of the following statements about bond prices and yields is true?

As yield increases, bond prices decrease. As yield decreases, bond prices increase.

Which of the following is true about beta?

Beta measures an asset's exposure to market risk.

Why do corporate bonds tend to offer higher interest rates than U.S. Treasury securities of similar maturity?

Corporate bonds tend to have more default risk than similar maturity Treasuries, so investors demand higher yields to compensate for the increased risk.

Which of the following is true about diversifiable risk?

Some diversifiable risk can be eliminated by holding a well-diversified portfolio.

1. Suppose you have a portfolio equally invested in four stocks. Each stock's expected return, standard deviations, and beta are in the following table. Which stock is contributing the most risk to your portfolio? Which stock is reducing your portfolio's risk the most? LO1 (use chart in notes)

Stock A is contributing the most risk. Stock D is reducing the portfolio's risk the most.

Which of the following is a limitation of the IRR decision rule?

The IRR assumes all cash flows are reinvested at the IRR

Which of the following is true about the correlation coefficient?

The correlation coefficient measures the degree to which assets' returns tend to move together.

Which of the following is an accurate description of a bond's maturity date?

The date on which the bond pays its face value to the bondholder.

How is the intrinsic value of a share of common stock determined according to the Dividend Discount Model (DDM)?

The intrinsic value is the present value of the expected future cash flows discounted at an appropriate rate given the cash flows' risk.

The required return of a stock given by the CAPM is _______________.

The minimum return the average investor requires as compensation for the risk of holding the stock.

Holding all else constant, what would you expect to happen to the price of a share of stock if the expected return on the market increased? Use the CAPM and DDM to answer this question.

The stock's price would decrease because the discount rate increased.

Which of the following is TRUE about a dividend paying stock's total expected return?

The total expected return comes from two sources: the dividend yield and capital gains.

A bond will trade at a discount when its coupon rate is lower than the yield to maturity.

True

A bond will trade at a premium when its coupon rate is higher than its yield to maturity.

True

Stocks have both diversifiable risk and market risk, but the market will only systematically offer higher expected returns for bearing market risk.

True

The WACC is the minimum return a firm must earn on its investments in order to pay all financial stakeholders their required rates of return

True

When holding stocks in a portfolio, the amount of risk that is eliminated depends on the degree to which the stocks' returns are correlated.

True

The weighted average of a firm's debt and equity cost of capital is known as its

WACC

A large enough portfolio will eliminate all risk.

False

All four investment rules discussed in this chapter will give the same investment decision if there are no calculation mistakes.

False

Bonds with higher risk and lower credit ratings tend to offer lower yields to attract investors.

False

Financial managers should use accounting-based book values instead of market values to calculate weights for the firm's WACC

False

Most corporations offer shares of preferred stock.

False

The intrinsic value of a dividend-paying stock cannot be determined because the share does not mature and pays dividends forever. The intrinsic value is effectively infinite.

False

The risk of a portfolio increases as you add more stocks with correlation coefficients less than one to the portfolio.

False

Which of the following is true about a stock's price?

Holding all else constant, a stock's price should increase when a corporation's expected future earnings increase.

Stock X and Stock Y each have a standard deviation of 40%. If the stocks have a correlation coefficient less than one, then a portfolio of the two stocks has a standard deviation of _________________.

Less than 40%

Which of the following is true about NPV?

NPV is the difference between the present value of the benefits and the present value of the costs of a project

Which of the following is a limitation of the PI investment decision rule?

PI ignores the scale of an investment

What should you do if there is a disagreement among multiple investment decision rules ( the NPV rule says to accept the project while the IRR rule says to reject the project)?

Rely on NPV

Which of the following is true about the CAPM theory and is important to keep in mind when using the model to estimate your minimum required rate of return for an asset?

all of these

The relative proportion of debt and equity a firm uses to finance its assets is the firm's

capital structure