Finance Final Exam
A portfolio worth $5,500 is invested in Stocks A and B plus a risk-free asset. A total of $2,500 is invested in Stock A with a beta of 1.27. Stock B has a beta of 0.89. How much needs to be invested in Stock B if the goal is to create a portfolio that will mimic the entire market?
$2,612.36 βMarket = 1βPortfolio = 1 = 1.27($2,500 / $5,500) + 0.89(x / $5,500) + 0[($5,500 − 2,500 − x) / $5,500]x = $2,612.36
Assume a project has an initial cost of $48,000 and will produce net income for 5 years. The project will use straight-line depreciation over the life of the project. The AAR of this project can be computed as
(Sum of all net income / 5) / ($48,000 / 2)
Which one of these serial correlation values is the strongest indicator of price continuation?
+0.5
The standard deviation of a risk-free asset is
0
Which one of these serial coefficient values is most consistent with weak form market efficiency?
0
A portfolio consists of two stocks with Stock A having a weight of 41 percent. Stock A has a standard deviation of 16.78 percent, and Stock B's standard deviation is 8.44 percent. The stocks have a covariance of −0.0063. What is the portfolio variance?
0.004165 σ2 = 0.412(0.1678)2 + 2(0.41)(1 - 0.41)(-0.0063) + (1 - 0.41)2(0.0844)2= 0.004165
The variance of Stock A is 0.005492, the variance of Stock B is 0.012394, and the covariance between the two is 0.0034. What is the correlation coefficient?
0.4121 ρA,B = 0.0034 / (0.0054920.5 × 0.0123940.5) = 0.4121
The MM propositions would suggest that firms should prefer which one of these debt-to-equity ratios?
0.9
A portfolio consists of 33 percent of Stock X, 52 percent of Stock Y, and 15 percent of Stock Z. Stock X has a beta of 0.94, Stock Y has a beta of 1.21, and Stock Z has a beta of 1.08. What is the portfolio beta?
1.101 βPortfolio = 0.33(0.94) + 0.52(1.21) + 0.15(1.08) = 1.101
A stock had returns of 11 percent, 26 percent, 8 percent, and −38 percent annually for the past 4 years. What is the mean and variance of these returns?
1.75%; .076425 Mean = (0.11 + 0.26 + 0.08 − 0.38) / 4 = 0.0175, or 1.75%σ2 = [(0.11 − 0.0175)2 + (0.26 − 0.0175)2 + (0.08 − 0.0175)2 + (-0.38 − 0.0175)2] / (4 − 1) = 0.076425
A portfolio consists of $38,312 of Stock A, $42,509 of Stock B, and $11,516 of Stock C. The expected returns on Stocks A, B, and C are 6.85 percent, 12.08 percent, and 15.92 percent, respectively. What is the portfolio expected rate of return?
10.39% Portfolio value = $38,312 + $42,509 + $11,516 = $92,337E(r) = 0.0685($38,312 / $92,337) + 0.1208($42,509 / $92,337) + 0.1592($11,516 / $92,337) = 0.1039, or 10.39%
Over the past 3 years, a stock had annual returns of 6.4 percent, 11.9 percent, and 14.8 percent. What is the mean return?
11.03% Mean = (6.4% + 11.9% + 14.8%) / 3 = 11.03%
For the period 1926 to 2015, the mean return on large-company stocks is
11.9%
A stock had annual returns of 9 percent, −16 percent, 14 percent, and 2 percent over the past 4 years. What is the standard deviation of these returns?
13.12% Mean = (0.09 − 0.16 + 0.14 + 0.02) / 4 = .0225σ = {[(0.09 − 0.0225)2 + (−0.16 − 0.0225)2 + (0.14 − 0.0225)2 + (0.02 − 0.0225)2] / (4 − 1)}.5 = 0.1312, or 13.12%
A portfolio consists of 35 percent of Stock S and 65 percent of Stock T. Stock S is expected to return 15 percent if the economy booms, 10 percent if it is normal, and lose 19 percent if it is recessionary . Stock T will return 26 percent in a boom, 15 percent in a normal economy, and lose 40 percent in a recession. The probability of a boom is 5 percent and probability of a recession is 10 percent. What is the portfolio standard deviation?
14.05% E(r)Boom = (0.35 × 0.15) + (0.65 × 0.26) = 0.2215E(r)Normal = (0.35 × 0.10) + (0.65 × 0.15) = 0.1325E(r)Recession = 0.35(−0.19) + 0.65(−0.40) = −0.3265E(r)Portfolio = 0.05(0.2215) + 0.85(0.1325) + 0.10(−0.3265) = 0.09105σPortfolio = {0.05[(0.2215 − 0.09105)2] + 0.85[(0.1325 − 0.09105)2] + 0.10[(−0.3265 − 0.09105)2]}0.5 = 0.1405, or 14.05%
Suppose you own a risky asset with an expected return of 18.2 percent and a standard deviation of 27.2 percent. If the returns are normally distributed, the approximate probability of losing 9 percent or more in a single year is ____ percent.
15.87 Lower point of 68.26% probability range = 18.2% − 27.2% = −9% Approximate probability of losing 15 percent or more = (100% − 68.26%) / 2 = 15.87%
The arithmetic average return on your portfolio for the past 5 years is 9.3 percent. You earned −7.4 percent, 17.1 percent, 6.3 percent, and 11.8 percent for 4 of those 5 years. What rate of return did you earn in the fifth year?
18.7% 0.093= (−0.074 + 0.171 + 0.063 + 0.118+ R) / 5R = 0.187, or 18.7%
A 10-year, $600 annuity pays its first payment at Date 3. If you compute the present value of this annuity, the computed value will be as of Date
2
One year ago, you purchased a stock at a price of $47.26 a share. Today, you sold the stock and realized a total return of 9.8 percent. Your capital gain was $3.68 a share. What was your dividend yield on this stock?
2.01% Capital gains yield = $3.68 / $47.26 = 0.0779, or 7.79%Dividend yield = 9.8% − 7.79% = 2.01%
A portfolio has a beta of 1.27. The portfolio consists of 25 percent U.S. Treasury bills, 38 percent Stock A, and 37 percent Stock B. Stock A has a risk level equivalent to that of the overall market. What is the beta of Stock B?
2.41 βRisk-free = 0βMarket = 1 1.27= (0.25× 0) + (0.38× 1.0) + (0.37× βB)βB = 2.41
During the period 2000 to 2015, which one of the following years had the lowest rate of return for the S&P 500 Index?
2008
Poplar Trees Inc. has 48,300 shares of stock outstanding, and each share receives one vote for each open seat on the board of directors. There are five open seats at this time. How many shares must you control if the firm uses straight voting to guarantee your personal election to the board?
24,151 shares
A project has an initial cost of $12,100 and cash flows of -$2,100, $5,800, $16,600, and -$800 for Years 1 to 4, respectively. How many IRRs will this project have?
3
A stock had returns of 13 percent, 8 percent, 1 percent, and −9 percent annually for the past 4 years. What is the mean and standard deviation of these returns?
3.25%; 9.54% Mean = (0.13 + 0.08 + 0.01 − 0.09) / 4 = 0.0325, or 3.25%σ= {[(0.13 − 0.0325)2 + (0.08 − 0.0325)2 + (0.01 − 0.0325)2 + (−0.09 − 0.0325)2] / (4 − 1)}.5 = 0.0954 or 9.54%
In 2008, the S&P 500 index had an annual decline of
37 percent.
As of 2015, the United States represents about ____ percent of the total world stock market capitalization.
38
Assume that during a 7-year period, inflation averaged 2.8 percent, U.S. Treasury bill yields averaged 3.3 percent, and long-term government bond yields averaged 5.9 percent. What was the average rate of return on long-term corporate bonds if they commanded a risk premium of 0.2 percent more than the long-term government bonds?
6.1% Long-term corporate bond yield = 5.9% + 0.2% = 6.1%
A portfolio is expected to return 18 percent in a booming economy, 13 percent in a normal economy, and lose 11 percent if the economy falls into a recession. The probability of a boom is 3 percent while the probability of a recession is 25 percent. What is the overall portfolio expected return?
7.15% E(r) = 0.03(0.18) + 0.72(0.13) + 0.25(-0.11) = 0.0715, or 7.15 %
What are the arithmetic and geometric average returns for a stock with annual returns of 14.9 percent, 14.6 percent, −2.8 percent, and 9.7 percent?
9.100%; 8.854% Arithmetic average = (0.149 + 0.146 − 0.028 + 0.097) / 4 = 0.091, or 9.1%Geometric return = (1.149 × 1.146 × 0.972 × 1.097).25 − 1 = 0.08854, or 8.854%
Alpha stock has a beta of 1.29. The risk-free rate of return is 3.2 percent, and the market rate of return is 10.7 percent. What is the Alpha stock risk premium?
9.68% Risk premium = 1.29(0.107 − 0.032) = 0.0968, or 9.68%
What percentage of the time should you expect to earn an annual rate of return that is within two standard deviations of the mean?
95%
Which one of these statements is true?
A U.S. Treasury bill has a beta of zero.
Which one of the following statements concerning dealers and brokers in the financial markets is correct?
A broker never assumes ownership of the securities being traded.
Which one of these events might cause the biggest challenge to the MM Propositions?
A change in tax laws to treat interest and dividends equally.
What value should you assign as the floatation cost of internally generated equity financing?
A cost of zero
Which one of the following would tend to indicate that a portfolio is being effectively diversified?
A decrease in the portfolio standard deviation
Which one of these statements related to the time value of money is correct? Assume a positive rate of interest.
A dollar received today is more valuable than a dollar received next month.
Which one of the following statements is correct concerning market efficiency?
A firm will generally receive a fair price when it sells shares of stock in an efficient market.
Which of these represents an indirect cost of financial distress?
A firm's supplier requiring payment in cash rather than offering its normal credit terms
Why does MM Proposition I, without taxes, not hold in the presence of corporate taxation?
A levered firm will pay less tax than the identical firm unlevered.
Which statement is correct?
A small stock dividend increases both the par value per share and the value of the capital in excess of par value account.
How does the valuation of a company vary from the valuation of a project using WACC?
A terminal value is included in the valuation process for a company but generally not for a project.
Dorian International has $75,000 that it can invest for 2.5 years. After that, the funds are needed to repay an outstanding bond issue. The company has two potential projects that are within the funding limit. Project A has an initial cost of $40,000 and cash flows of $24,000 a year for 2 years. Project B has an initial cost of $75,000 and cash flows of $27,000 a year for 4 years. If the required rate of return on both projects is 12 percent, what is your recommendation?
Accept Project A and reject Project B
You know that two mutually exclusive projects are of different sizes. The smaller project is known to have a positive NPV. Which one of these accurately describes a method of properly determining which one, if either, project should be accepted?
Accept the larger project if the incremental IRR exceeds the discount rate
Which one of the following actions by a financial manager least meets the goal of financial management?
Agreeing to expand the company at the expense of stockholders' value
Alicia purchased 100 shares of GT stock on Wednesday, July 7th. Nick purchased 100 shares of GT stock on Thursday, July 8th. GT declared a dividend on June 20th to shareholders of record on July 12th and payable on August 1st. Which one of the following statements concerning the dividend paid on August 1stis correct given this information?
Alicia is entitled to the dividend but Nick is not.
Which one of the following statements concerning interest rates is correct?
An effective annual rate is the rate that applies if interest were charged annually.
Which one of the following statements concerning bankruptcy is correct?
An indirect cost of bankruptcy is the loss of key employees.
A stock has an expected rate of return of 13.9 percent and a standard deviation of 23.3 percent. Which one of the following best describes the probability that this stock will lose more than 1/3 of its value in any one year?
Approximately 2.25% Lower bound of 95.44 percent probability range = 0.139 − (2 × 0.233) = −0.327, or −32.7%Probability = (100% − 95.44%) / 2 = 2.28%A loss of 1/3, or 33.3 percent, would be a tad further out into the tail than a loss of 32.7 percent, so a probability of 2.25 percent would be a reasonable approximation.
Which one of these is a corporate document that sets forth the intended life of the firm?
Articles of incorporation
The lowest Moody's bond rating that is considered to be an investment-grade rating is bond
Baa.
Which one of these statements related to beta is correct?
Beta measures the risk of a single security if held in a large, diversified portfolio.
Assume today is December 31, 2015. Approximately how long has it been since the annual rate of inflation as measured by the Consumer Price Index has been negative?
Between 60 and 70 years
The fact that interest payments on debt are tax deductible is a key factor in which of these propositions?
Both MM Proposition I and II, with taxes
Which one of these statements is correct regarding a portfolio of two risky securities?
Both the rate of return and the standard deviation of a portfolio can be changed by changing the portfolio weights.
Which one of these statements is a correct implications of the pecking order theory?
Companies like financial slack so they can reduce their external capital needs.
Assume a stated rate of interest of 8 percent. Which form of compounding will produce the highest effective rate of interest?
Continuous
Which one of these statements is correct regarding large U.S. firms for the period 2004 to 2014?
Corporate earnings tend to be more volatile than either stock dividends or repurchases.
Which one of the following business types is best suited to raising large amounts of capital?
Corporation
Which one of these statements is correct regarding various types of investors?
Corporations can exclude at least 70 percent of their dividend income from taxes.
Efficient markets require which one of these?
Countervailing irrationalities
Which one of these measures the interrelationship between two securities?
Covariance
Which one of these describes a bankruptcy situation known as a "cram down"?
Creditors are forced to accept a bankruptcy plan that they voted to reject.
What does the spread between the bid and asked bond prices represent?
Dealer's profit
During the 2008 financial crisis, the Icelandic stock exchange temporarily halted trading. What was the reaction of that market when trading resumed a few days later?
Decrease in excess of 75 percent
What is the first step an investor takes when making an investment decision according to the separation principle?
Determine the portfolio of risky assets that he/she will hold
What lesson can be learned from the 2008 market decline?
Diversification lowers risk.
Which one of the following values cannot be negative?
Dividend yield
Which one of these is a commonly used multiple for overall company valuation?
EV/EBITDA
The expected dividend yield is equal to
Expected cash dividend / Current stock price.
Which one of these statements is correct?
Financial leverage refers to a firm's use of debt and its related fixed costs of finance.
Which one of these is an advantage of a general partnership?
Greater ability to raise capital than a sole proprietorship
Which term applies to a set of cash flows that are finite in number and increase in amount at a steady rate?
Growing annuity
Which one of the following would have the greatest value assuming each has a Year 0 cash flow of zero and a Year 1 annual cash flow of $100? Assume a discount rate of 8 percent, compounded annually. Also, assume any growth rate is positive.
Growing perpetuity
According to finance professionals, which one of these factors has the biggest impact on a firm's PE ratio?
Growth opportunities
The beta of a firm is more likely to be high under which two conditions?
High cyclical business activity and high operating leverage
Which of these may occur if a company uses its overall cost of capital as the discount rate for all projects? I. Profitable low-risk projects may be incorrectly rejected. II. Only projects with risks similar to the current company will be accepted. III. Too many high-risk projects may be accepted. IV. Only low-risk projects will be accepted.
I and III only
Quick Mart has been paying a quarterly dividend of $1.20 a share. Which of the following are valid reasons for the firm to reduce or eliminate these dividends? I. The firm is on the verge of violating a bond restriction. II. The firm wants to save cash for an acquisition with a 40 percent premium. III. The firm can raise new capital easily at a very low cost. IV. Congress just changed the tax laws eliminating all taxes on capital gains.
I and IV only
A firm may file for Chapter 11 bankruptcy I. in an attempt to gain a competitive advantage. II. using a prepack. III. while allowing the current management to continue running the firm. IV. even though it is not insolvent.
I, II, III, and IV
Companies are more apt to choose repurchases over dividends if doing so will enable them to I. take advantage of a market undervaluation of their shares. II. maintain or increase the value of executive stock options. III. offset the dilution created by the exercise of executive stock options. IV. distribute revenue increases that are considered to be temporary or short-term in nature.
I, II, III, and IV
Which of the following are common loan covenants? Assume each item applies only during the term of the loan. I. Limit on future borrowing II. Requirement that the borrower maintains a minimum stated level of net working capital III. Limit on any sales or switches of assets IV. Limit on the amount of dividends that can be paid
I, II, III, and IV
The portfolio expected return considers which of the following factors? I. The amount of money currently invested in each individual security II. Various levels of economic activity III. The performance of each stock given various economic scenarios IV. The probability of various states of the economy occurring
I, II, III, and IV only
Which of the following are given as reasons why individual investors may be able to borrow at the same rates as corporations? I. Corporate loans must be negotiated and supervised. II. Corporations often borrow using illiquid assets as collateral. III. Individuals tend to borrow smaller amounts. IV. Individuals can borrow on margin through a broker.
I, II, and IV only
Which of these will occur in a world with taxes and financial distress when a firm is operating at its optimal capital structure? I. The debt-equity ratio will be optimal. II. The weighted average cost of capital will be at its minimal point. III. The required return on assets will be at its maximum point. IV. The increased benefit from additional debt will equal the increased bankruptcy costs of that debt.
I, II, and IV only
If you assume beta is greater than 1, then which of these will increase the cost of equity capital according to CAPM? I. Increase in the risk-free rate II. Decrease in the risk-free rate III. Increase in the market rate of return IV. Decrease in the market rate of return
II and III only
You are comparing two investments, A and B, with unequal annual cash flows and varying numbers of years. Which one of these statements is correct regarding this comparison?
If B has a higher net present value, then B will have the higher net future value at any point in time, given a stated discount rate.
Which one of these statements is correct?
If individuals pay a higher cost to borrow than corporations do, then corporations can increase firm value by borrowing.
Which one of these statements is true?
If the shareholders of an acquired company receive shares in the acquirer rather than cash, they avoid paying taxes.
Suppose a portfolio had an arithmetic average return of 8 percent for a 4-year period. Which one of these statements must be true regarding this portfolio for the period?
If the standard deviation of the portfolio is greater than zero, then the geometric average portfolio return is less than 8 percent.
How can management best signal the market that firm is doing well?
Increase the regular dividend amount
Projects A and B require an initial investment of $48,000 and $98,000, respectively. The projects are mutually exclusive, and you know the smaller project has a positive NPV. Which one of these methods is probably the best method to use to determine which project to accept?
Incremental internal rate of return
Which one of the following is the best example of systematic risk?
Inflation rises unexpectedly.
Which one of the following transactions occurs in the primary market?
Initial sale of JKL stock by JKL to Jamie
Which type(s) of loan repays the interest as an annuity and the principal as a lump sum?
Interest-only loans
Which one of the following is true?
Investors will generally view an increase in leverage as a positive sign of the firm's value.
Which one of these statements is correct?
Irrationality may be related across investors.
Donal Keim's research presents evidence that the difference in performance between small capitalization stocks and large capitalization stocks is largest in the month of
January
Which one of these proposes that the value of a levered firm exceeds the value of an unlevered firm by the present value of the tax shield?
MM Proposition I, with tax
Which one of these argues than the value of a firm is independent of its capital structure?
MM Proposition I, without taxes
Which one of these presents the idea that the cost of equity is a positive linear function of capital structure?
MM Proposition II, without taxes
Which one of these statements is correct?
MM Propositions ignore bankruptcy costs.
Of the following factors, which one is considered to be the primary factor affecting a firm's dividend decision?
Maintaining consistency with the historical dividend policy.
NASDAQ has which one of these features?
Multiple market maker system
Uptown Developers is considering two projects. Project A consists of building a wholesale book outlet on the firm's downtown lot. Project B consists of building a sit-down restaurant on that same lot. The lot can only accommodate one of the projects. When trying to decide whether to build the book outlet or the restaurant, management should rely most heavily on the analysis results from which one of these methods?
Net present value
Mr. Rhoades is the CEO of Daily News. The majority of stockholders do not approve of the decisions made by Mr. Rhoades and have repeatedly requested that he be ousted. Over the last couple of months, it has become apparent that the CEO is going to be replaced by a member of the board, Mr. Bentley, who is highly respected. This morning, the official announcement was made that Mr. Rhoades has stepped down and will be replaced immediately by Mr. Bentley. How is the stock price of the Daily News most apt to react to this announcement?
No reaction
Which one of the following is an argument in favor of a low dividend policy?
Only the gain on a sale of stock is taxed.
Investment options A and B are equally risky and have identical initial costs. Each investment will produce cash inflows of $20,000. Option A will pay $8,000 the first year followed by four annual payments of $3,000 each. Option B will pay five annual payments, starting in 1 year, of $4,000 each. Which one of the following statements is correct given these two investment options? Assume a positive rate of return.
Option A is the better investment.
Which methods of project analysis are most biased towards short-term projects?
Payback and discounted payback
Which one of these actions by a firm is an example of milking the property? Assume the firm is in a period of financial distress.
Paying an extra dividend
Which one of these is a payment of a non marketed claim on a firm's cash flows?
Payment of a customer's liability claim.
You are comparing the returns of two portfolios for a 10-year period. Portfolio I has a lower dispersion of returns and a higher average rate of return than Portfolio II. Given this, what do you know with certainty?
Portfolio I has a lower standard deviation than Portfolio II.
Which one of the following statements concerning preferred stock is correct?
Preferred shareholders may be granted voting rights if preferred dividend payments remain unpaid.
What does weak form efficiency imply?
Price patterns that existed in the past will reappear in the future.????
What is the primary role of a designated market maker (DMM)?
Provide a two-sided market
How frequently do dividend-paying firms in the United State generally pay regular cash dividends?
Quarterly
Given a world without taxes, RWACC of an unlevered firm will equal
R0
If a company is all-equity financed, its WACC will equal
RS
Which one of these is included in the term structure of interest rates and remains constant over the term?
Real rate of interest
Which one of the following is least apt to convince managers to work in the best interest of the current stockholders?
Receiving a bonus based on company size
Which one of these terms is used to describe a principle where investors draw conclusions from insufficient data?
Representativeness
Which one of these formulas will provide an estimate of the growth rate of a security's dividends?
Retention ratio * Return on equity
The formula associated with MM Proposition II, without taxes, is
Rs = R0 + (B / S)(R0 - RB).
If R0 exceeds RB then
Rs increases with leverage.
Lew, an individual investor, sold 100 shares of Global Tech stock on Monday. Janice, another individual investor, purchased those shares but never met Lew. You know for certain that this trade occurred in which market?
Secondary market
Which one of these would generally be considered the most rational action for a tax-paying investor?
Selling their losing and holding their winning securities.
Which type of business is the easiest and cheapest to form?
Sole proprietorship
Which one of these increases a firm's number of shares outstanding without changing its owners' equity?
Stock split
Which one of these best describes the relationship between bondholders and stockholders at a time when it appears the firm may be facing increased financial distress?
Stockholder have an incentive to underinvest in new projects to the detriment of bondholders.
Which one of these statements most applies to a firm that is suffering from financial distress?
Stockholders will bear the cost of selfish investment strategies through higher interest payments.
For our historical comparison purposes, how are large-company stocks defined?
Stocks of firms included in the S&P 500 composite index
Over the long-term, which one of the following is a correct statement concerning risk premium?
Stocks tend to have a higher risk premium than bonds.
Which one of these statements is correct?
The DDM seems to have more estimation errors than the CAPM.
Which one of these statements is true?
The IRS code discourages the accumulation of surplus cash thereby encouraging dividends.
Which one of these is a finding of Ritter's study of initial public offerings (IPOs)?
The annual returns for IPO firms during the 5-year period following an IPO are about 2 percent lower than their control group
Assume two annuities will each provide $500 annual cash flows for 5 years. One is an ordinary annuity and the other is an annuity due. Which statement concerning these annuities is correct?
The annuity due is more valuable than the ordinary annuity.
Which one of these statements is correct?
The cash flows of a firm are generally uncertain.
The terminal value of a. company is based on which one of these assumptions?
The cash flows will increase in the future at a constant perpetual rate.
Which one of the following statements is correct concerning the organizational structure of a corporation?
The chief operations officer reports to the chief executive officer
A stock report contains the following information: P/E 21.4, closing price 28.16, dividend 1.10, net chg .06, and an ask of 28.22 × 300. Which one of the following statements is correct given this information?
The closing price on the previous trading day was $28.10.
What does the present value of the tax shield from debt formula assume?
The debt is perpetual.
A stock quote shows a last price of 32.13, a P/E of 17, and a net change of −.23. Based on this information, which one of the following statements is correct?
The earnings per share are equal to 1/17th of $32.13.
Assume each firm within an industry has similar operations and financial structures as the industry as a whole. Which one of these statements related to beta is correct given this assumption?
The error in beta estimation for a single security exceeds the error for a portfolio of securities.
Which one of these is the best indicator that acquiring a firm is a good idea?
The firm has a positive NPV at an appropriate discount rate.
Which one of these statements related to beta is correct?
The levered beta of equity exceeds the asset beta.
Which one of the following statements concerning a sole proprietorship is correct?
The life of the firm is limited to the life span of the owner.
Which statement applies to an amortized loan that requires fixed principal payments?
The loan payments will decrease over time.
Which one of these statements is correct for a levered firm?
The optimal level of debt for a firm results in the value of that firm being maximized.
Which one of the following statements concerning a sole proprietorship is correct?
The owner of a sole proprietorship may be forced to sell personal assets to pay company debts.
A portfolio consists of five securities that have individual betas of 1.38, 0.87, 1.02, 1.49, and 0.67. You do not know the portfolio weight of each security. What do you know with certainty?
The portfolio beta will be less than 1.49 and greater than 0.67.
Which one of these relationships will exist if a firm is operating under its optimal capital structure?
The present value of the financial distress costs will equal the present value of the tax shield on debt.
The net present value of a project is projected at $210. How should this amount be interpreted?
The project is earning $210 in addition to the project's required rate of return.
Assume you are looking at a graph that relates the net present value of two mutually exclusive investment projects to various discount rates. Assume the projects have differing cash flows and finite lives. Which one of these statements accurately reflects this graph?
The project lines will reflect lower NPV values at higher discount rates.
Why is an accurate WACC so important when evaluating a new project? Assume a negative cash outflow at Time 0 and positive project cash flows thereafter.
The project's accept/reject decision will be based on the NPV calculated using that WACC.
What is the primary shortcoming of the average accounting rate of return from a financial perspective?
The use of net income rather than cash flows
Which one of these statements is correct?
The value of a firm's marketed claims can change with changes in the firm's capital structure.
In an EPS-EBI graphically relationship, the debt line and the no debt line intersect. Which one of these is true at the intersection point?
There is no advantage or disadvantage to debt.
Amy has a portfolio with a beta of 1.26 but has decided to lower her investment risk. Adding which one of the following securities to her portfolio is most assuredly going to lower the risk of the portfolio?
U.S. Treasury bills
Which one of the following types of securities has tended to produce the lowest real rate of return for the period 1926 to 2015?
U.S. Treasury bills
Which one of these statements correctly reflects historical history for the period 1926-2015?
U.S. Treasury bills have had a positive rate of return every single year.
Which statement is true?
Unanticipated changes in dividends can affect stock prices.
Which one of these symbols is correctly matched with its definition?
VU: Present value of unlevered firm
Which one of these measures the squared deviations of actual returns from expected returns?
Variance
Which one of the following claims on a firm would be paid first in a bankruptcy liquidation if the court adheres to the absolute priority rule?
Wages, salaries, and commissions
Assume you are reviewing a graph depicting earnings per share (EPS) on the vertical axis and earnings before interest (EVI) on the horizontal axis. Data points for both a levered and unlevered firm are displayed. Given this, which statement accurately describes this graph?
When earnings exceed the breakeven point, the levered firm has the higher EPS
A "make-whole" call provision on a bond provides for
a call price equal to the bond's approximate market value at the time of call.
All else constant, a bond will sell at _____ when the coupon rate is _____ the yield to maturity.
a discount; higher than
All else constant, a bond will sell at _____ when the yield to maturity is _____ the coupon rate.
a discount; higher than
Dividends are a cash flow from
a firm to the financial markets.
MM Proposition II, without taxes, is the proposition that
a firm's cost of equity increases in direct relationship to the increase in debt.
A proxy fight occurs when:
a group solicits voting rights to replace the board of directors
Market prices can be efficiently priced if
a number of interest traders use the publicly available information.
Diversified Industries is a multiproduct company operating in a number of industries. Assume the company is analyzing a new project that has risks unrelated to those of the current company's products. When computing the net present value of the new project the cash flows should be discounted using
a rate commensurate with the risk level of the project.
Based on the efficient market hypothesis, a stock's abnormal return at Time t is an indicator of
a release of new information at Time t.
You plotted the monthly rate of return for two securities against time for the past 48 months. If the pattern of the movements of these two sets of returns rose and fell together the majority, but not all, of the time, then the securities have
a strong positive correlation.
All else constant, a coupon bond that is selling at a premium, must have
a yield to maturity that is less than the coupon rate.
The abnormal return in an event study is described as the
actual return on a security minus the market rate of return on the same date.
All else equal, the market value of a stock will tend to decrease by roughly the amount of the
aftertax dividend amount on the ex-dividend date.
Conflicts of interest between stockholders and bondholders are known as
agency costs
As an attempt to avoid bankruptcy, a firm may
agree to a composition with its creditors
Multiple classes of stock are primarily created to
allow certain shareholders to retain control of a firm.
The interest rate charged per period multiplied by the number of periods per year is called the
annual percentage rate
The efficient market hypothesis implies that
any investment should earn a normal return commensurate with the investment's risk.
MM Proposition I, without taxes, illustrates that
any one capital structure is just as valuable as any other capital structure for a given firm.
Corporate dividends
are taxed at the personal level even though they are paid from after-tax income.
When computing the weights to be used in a project's WACC equation, you should use the
average market weights of debt and equity that are expected over the project's life.
Reverse stock splits can be used to
avoid delisting
The legal proceeding for liquidating or reorganizing a firm operating in default is called a
bankruptcy.
The owners of a limited liability company prefer
being taxed personally on all business income.
The systematic risk of the market is assigned a
beta of 1.
Floating-rate bonds generally have
both a put provision and a collar.
The rules by which corporations govern themselves are called
bylaws
Unsystematic risk
can be effectively eliminated through portfolio diversification
A fixed repurchase strategy
can force firms into making negative NPV investments
The protective covenants contained within a loan agreement
can increase the value of the borrowing firm.
The process of planning and managing a firm's long-term investments is referred to as
capital budgeting
The key difference between the responsibilities of the controller and those of the treasurer is best defined as the separation of duties between
cash control versus accounting records
All else equal, the payback period for a project will decrease whenever the
cash inflows are moved earlier in time.
The beta of a security provides an estimate of the
characteristic line for the security.
In a world with corporate taxes, MM theory implies that all firms should
choose an all-debt capital structure.
The principle that investors slowly adjust their beliefs to new information is referred to as
conservatism
Stock prices fluctuate daily. In relation to the efficient market hypothesis, these fluctuations are
consistent with the semi strong form because new information arrives daily.
Liter's model supports the belief that
corporation smooth dividends
R0 is defined as the
cost of capital of an unlevered firm.
Beta values are highly dependent on the
covariance of a security with the market.
The risk of an individual security that will be compensated by the market depends upon the
covariance of that security with the market.
Sole Proprietorships
create unlimited liability for their owners.
A firm should accept projects with a positive net present values primarily because those projects will
create value for the firm's current stockholders.
The voting procedure whereby shareholders may cast all of their votes for one candidate for the board of directors is called _____ voting.
cumulative
Net working capital is best defined as
current assets minus current liabilities
A general rule for managers to follow is to establish a firm's capital structure such that the firm's
current market value is maximized.
The optimal capital structure has been achieved when the
debt-equity ratio selected results in the lowest possible weighted average cost of capital.
The date on which the board of directors passes a resolution authorizing payment of a dividend to the shareholders is the _____ date.
declaration
In 2008, the S&P 500 index
declined almost 17 percent in 1 month.
If you examine the U.S. stock market risk premium by extending the 1926 to 2015 time period backwards in time to 1802 (given the available information), the risk premium
decreases to 5.2 percent.
A stock that pays a constant annual dividend will have a market price that
decreases when the market rate of return increases.
The _____ premium is that portion of a nominal interest rate or bond yield that represents compensation for the possibility of nonpayment by the bond issuer.
default risk
The explicit costs, such as the legal expenses, associated with corporate default are classified as _______ costs.
direct bankruptcy
MM Proposition II, without taxes, implies that the required return on equity is
directly affect by the firm's debt-to-equity ratio.
Assume you purchase a bond with a quoted price of 98.6208 on June 30. The bond pays interest on February 1 and August 1. The invoice price you pay for this purchase will equal the
dirty price.
The discounted payback period of a project will decrease whenever the
discount rate applied to the project is decreased.
Payments made out of a firm's earnings to its owners in the form of cash or stock are called
dividends
Past performance
does not guarantee future performance.
The highest effective annual rate that can be derived from an annual percentage rate of 9 percent is computed as
e0.09 - 1
In a limited partnership,
each limited partner's liability is limited to the amount he/she invested.
An interest rate expressed as if it were compounded once per year is called the
effective annual rate
The research done by Ikenberry, Lakonishok, and Vermaelen supports the argument that mangers:
effectively time stock repurchases.
The effective annual rate (EAR) of a loan will increase if
either the annual percentage rate (APR) or the compounding frequency is increased.
The primary purpose of portfolio diversification is to
eliminate asset-specific risk.
A reverse stock split associated with a cash buyout is sometimes used as a means of
eliminating small stockholders.
The articles of incorporation
establish the rights of the shareholders.
Angelo anticipates earning a rate of return of 11.4 percent on his portfolio next year. The 11.4 percent is referred to as the
expected return.
A firm that has a negative net worth is said to be
experiencing accounting insolvency
The explicit and implicit costs associated with corporate default are referred to as the ________ costs of a firm.
financial distress.
The use of debt is called
financial leverage.
In a stock market report, the open price represents the
first trade of the day.
If markets are strong-form efficient, then event studies should show that new information affects a related stock's price
for a single day.
A business entity formed by two or more individuals who each have unlimited liability for business debts is called a
general partnership
The average compound return earned per year over a multiyear period is called the _____ average return.
geometric
An investment is acceptable if the profitability index (PI) of the investment is
greater than one.
Companies A and B are identical except for their capital structures. Company A is an all-equity company while Company B is levered. Given this, you can assume that Company B's equity beta is __________ Company A's beta and its debt beta is assume to be ____________.
greater than; equal to zero
The higher the Sharpe ratio, the
greater the return per unit of risk
A crossover bond is a bond that
has both an investment-grade and a low-grade rating.
An unlevered firm is a company that
has no debt.
For an individual investor, the ideal portfolio could best be described as the portfolio that
has the lowest standard deviation given a specific expected rate of return.
The cause of the October 19, 1987 stock market crash
has yet to be determined.
If the financial markets are efficient, then investors should expect their investments in those markets to
have zero net present values
Staggered elections
help prevent takeovers.
A firm with high operating leverage is best defined as a firm that has
high fixed costs relative to variable costs.
Agency costs provide justification for
higher dividends over lower dividends.
Given a set of returns, the wider the distribution of those returns, the
higher the standard deviation.
Weak form efficiency is best defined as a market where current prices are based on
historical prices.
Jack owns shares of stock in Boynton Foods and wants to be elected to the company's board of directors. There are 10,000 shares of stock outstanding and each share is granted one vote for each open position on the board. Presently, the company is voting to elect two new directors. Jack can be assured of his election
if cumulative voting applies and he owns one-third of the shares, plus one additional share.
The payback method
ignores the time value of money
If the market is fully efficient, then an announcement by a firm of a new product with a high net present value will cause the market price of that firm's stock to
immediately increase to a new level equivalent to the increased value of the firm.
Indirect bankruptcy costs
include the costs incurred by a firm as it tries to avoid seeking bankruptcy protection.
In a project analysis, flotation costs are generally
included in the amount raised.
The optimal debt-equity ratio tends to
increase when agency costs of equity exist.
Given a positive rate of return and multiple time periods, compound interest
increases in an exponential manner.
The use of leverage by a firm
increases shareholder risk.
The free cash flow hypothesis supports
increasing the debt portion of a firm's capital structure to increase firm value.
Ignoring taxes, financial leverage affects the performance of a firm by
increasing the volatility of the firm's EPS.
When two projects can share the same economic resource, the projects are generally considered to be
independent
The costs of avoiding a bankruptcy filing by a financially distressed firm are classified as ____________ costs.
indirect bankruptcy
MM Proposition I, without taxes, assumes that
individuals and corporations can borrow at the same rate.
An investment will pay $3,000 every 3 years with the first payment occurring 3 years from today. The investment has a 12-year life. To compute the present value of this investment you need to calculate the
interest rate for the 3-year period.
The discount rate that makes the net present value of an investment exactly equal to zero is called the
internal rate of return
The two most commonly used methods of capital budgeting analysis are the
internal rate of return and net present value methods.
Assume a project has normal cash flows and a positive (non-zero) net present value. The project's
internal rate of return will exceed its required rate of return.`
Assume a discount bond has a few years until maturity and a positive yield. All else constant, the bond's yield to maturity is
inversely related to the bond's market price.
If semi strong, or strong, form efficiency exists, then, on average, investors are probably best served by
investing in index funds rather than in actively managed mutual funds.
Serial correlation
involves the relationship of one stock's returns over various time periods
An investment
is acceptable if its calculated payback period is less than some prespecified period of time
Short-term finance
is concerned with managing net working capital.
The owner of preferred stock
is entitled to a distribution of income prior to the common shareholders.
The expected return on a portfolio
is limited by the returns on the individual securities within the portfolio.
From a tax-paying shareholder's point of view, a stock repurchase
is more desirable than a cash dividend
Analysis using the profitability index
is useful as a decision tool when investment funds are limited
Alto stock pays an annual dividend of $1.10 a share and has done so for the past 6 years. No changes in the dividend amount are expected. The relevant market rate of return is 7.8 percent. Given this, one share of this stock
is valued as a perpetuity.
A valuable firm will tend to
issue more debt than a less valuable firm of comparable size.
MM Proposition I, without taxes, supports the argument that
it is completely irrelevant how a firm arranges its finances.
A firm is technically insolvent when
it is unable to meet its financial obligations.
The payback method is a convenient and useful tool because
it provides a quick estimate of how rapidly an initial investment will be recouped.
In principle, a firm becomes bankrupt when
its equity value falls to zero
On average, for the period 1926 to 2015
large-company stocks had a higher risk premium than long-term corporate bonds.
Assume two securities are negatively correlated. If these two securities are combined into an equally weighted portfolio, the portfolio standard deviation must be
less than the weighted average of the standard deviations of the individual securities.
You are writing a comparison of an all-equity structure to a levered capital structure for a firm. It is accurate to state in this comparison that
leverage lowers shareholders' returns in bad financial times.
A cash payment made by a firm to its owners when some of the firm's assets are sold off is called a(n)
liquidating dividend
The complete termination of a firm as a going business concern is called a
liquidation
An upward sloping yield curve indicates
long-term rates are higher than medium-term rates
The optimal capital structure will tend to include more debt for firms with
lower probability of financial distress.
The fact that floatation costs can be significant is justification for
maintaining a low dividend policy and rarely issuing extra dividends.
The information content of a regular dividend increase generally signals that
management believe the future earnings of the firm will be strong.
The efficient market hypothesis says that
market prices reflect underlying asset values.
The excess return earned by an asset that has a beta of one over that earned by a risk-free asset is referred to as the
market risk premium
Shareholders value firms based on their
market values
Choices between various accounting methods should not affect stock prices if
markets are at least semi strong form efficient and firms provide sufficient information so investors can analyze those choices.
The primary goal of financial management is to
maximize the current value per share of the existing stock
Managers should select the capital structure that
maximizes the value of the firm.
The optimal capital structure of a firm __________ the marketed claims and __________ the unmarketed claims against the cash flows of the firm.
maximizes; minimizes
The dominant portfolio with the lowest possible level of risk out of a set of portfolios consisting of two securities is referred to as the
minimum variance portfolio
A firm's capital structure refers to the
mix of debt and equity used to finance the firm's assets.
The risk premium for an individual security is computed by
multiplying the security's beta by the market risk premium.
Greener Grass Co. pays a constant annual dividend of $1 a share and has 1,000 shares of common stock outstanding. The company
must still declare each dividend before it becomes an actual company liability.
The free cash flow model, as compared to other models, tends to be most helpful when valuing a share of stock in a:
non-dividend-paying firm that has external financing needs.
Which one of these is an indicator that a market is efficient?
normal rates of return
In respect to a balance sheet, a stock split will
not affect the total value of any of the equity accounts.
The yield to maturity on a bond is the rate
of return currently required by the market
Two mutually exclusive projects produce the same positive NPV at a discount rate of 11.34 percent. Both projects have 4-year lives. Project A has larger cash flows than Project B in the first 2 years. Given this information, you know that
one project will be preferred at rates less than 11.34 percent and the other will be preferred at higher rates.
The pecking order theory states that when external funds are required, a firm should
only issue equity securities after the firm's debt capacity is reached.
Market efficiency
or the lack thereof, is highly controversial.
Representativeness, according to financial economists, leads to
overreactions in stock returns.
A bond with both a face value and a market value of $1,000 is called a ________ bond.
par value
The division of profits and losses among the members of a partnership is formalized in the
partnership agreement
The length of time required for an investment to generate cash flows sufficient to recover the initial cost of the investment is called the
payback period
Behavioral finance supports the
payment of dividends rather than stock repurchases.
A sensible payout policy
pays out all free cash flows over time.
A store receives cash when a customer
pays their bill from the store
A limited partnership generally
permits limited partners to sell their ownership interest without the partnership terminating.
A stakeholder is best described as any
person or entity, other than a stockholder or creditor, who potentially has a claim on a firm's cash
The standard deviation for a set of stock returns can be calculated as the
positive square root of the variance
According to the capital asset pricing model, the expected return on a security is
positively and linearly related to the security's beta
The net present value of an investment is best defined as the
present value of the investment's future cash flows minus the investment's cost.
Long-term debt securities that are issued but not offered to the general public are referred to as
privately placed
Markets tend to be efficient when
professional arbitrage exceeds amateur speculation.
A deferred call provision is designed to
prohibit the calling of a bond prior to a certain date.
The primary purpose of the Sarbanes-Oxley Act of 2002 is to
protect investors from corporate abuses.
The increase you realize in buying power as a result of owning a bond is referred to as the _____ rate of return.
real
The overall level of interest rates is primarily affected by the
real rate.
If you have returns on a security and also on the market, you can estimate beta using
regression analysis
A cash payment made by a firm to its owners in the normal course of business is called a(n)
regular cash dividend.
A legal attempt to financially restructure a failing firm so that is can continue operating as a going concern is called a
reorganization
Sam, an avid day trader, has noticed that a particular stock has increased in value in each of the last three trading days. Given this trend, he believes the stock price will increase over the next two trading days. This is an example of
representativeness
If there is no diversification benefit derived from combining two risky stocks into one portfolio, then the
returns on the two stocks must move perfectly in sync with one another
The use of WACC as the discount rate when evaluating a project is acceptable when the
risk of the project is equal to the company's overall level of risk
Bonds backed by assets with long-term payments are referred to as
securitized bonds
Bryan invested in Bryco stock when the firm was financed solely with equity. The firm is now utilizing debt in its capital structure. To unlever his position, Bryan needs to
sell some shares of Bryco stock and loan out the sale proceeds.
The hypothesis that market prices reflect all publicly available information is called ________ form efficiency.
semi-strong
The U.S. Securities and Exchange Commission periodically charges individuals for insider trading and claims those individuals have made unfair profits. Based on this fact, you would tend to argue that the financial markets are at best _____ form efficient.
semistrong
The articles of incorporation
set forth the number of shares of stock that can be issued
A convertible bond can be exchanged for
shares in company stock
A convertible bond can be exchanges for
shares of company stock
Research has found that investors tend to react to earnings surprises
slowly, which illustrates conservatism.
The histograms of the returns on large-company and small-company stocks for the period 1926 to 2015 show that
small-company stocks are more volatile than large-company stocks.
If behavioral finance holds, this implies
some investors are irrational some of the time.
The principle of diversification tells us that
spreading an investment across many diverse assets will lower a portfolio's level of risk.
The variance of returns for a portfolio of stocks is computed by dividing the sum of the
squared deviations by (the number of returns minus one).
When comparing levered versus unlevered capital structures, leverage works to increase EPS for high levels of EBIT because interest payments on the debt
stay fixed, leaving more income to be distributed over fewer shares.
When comparing levered versus unlevered capital structures, leverage works to increase EPS for high levers of EBIT because interest payments on the debt
stay fixed, leaving more income to be distributed over fewer shares.
Even though no final conclusion is currently warranted, a number of research papers, including those of Fama and French, have argued that
stocks with high book-value-to-stock-price ratios outperform stocks with low ratios
The voting procedure where you must control 50 percent plus one of the outstanding shares of stock to guarantee that you will win a seat on the board of directors is called _____ voting.
straight
The hypothesis that market prices reflect all available information of every kind is called _____ form efficiency.
strong
Insider trading does not offer any advantages if the financial markets are
strong form efficient.
The risk premium is computed by ______ the average rate of return for an investment.
subtracting the average return on U.S. Treasury bills from
The market risk premium is computed by
subtracting the risk-free rate of return from the market rate of return.
Serial correlation
supports weak form efficiency.
Assume a company's cost of equity exceeds its pretax cost of debt. Given this assumption and assuming all else is held constant, the company's WACC must increase if the
tax rate decreases.
Which one of these represents the difference between the value of a levered and unlevered firm?
tcB
Individuals that continually monitor the financial markets seeking mispriced securities
tend to make the markets more efficient.
By federal law, lenders must disclose
the APR, including fees and other noninterest charges.
The basic regulatory framework for public trading of securities within the United States is provided by:
the Securities Act of 1933 and the Securities Exchange Act of 1934.
For tax purposes, the implicit annual interest for any one year on a zero coupon bond is equal to
the annual change in the bond's value as determined by amortizing the loan.
The asset beta is defined as the beta of
the common stock of an unlevered firm.
The set beta is defined as the beta of
the common stock of an unlevered firm.
Agency costs refer to
the costs of any conflicts of interest between stockholders and management
Interest rate risk increases as
the coupon payment decreases.
When the CAPM is used to estimate the cost of equity capital, the expected excess market return is equal to
the difference between the return on the market and the risk-free rate.
Winter's just declared an increase in its annual dividend from $.82 a share to $.85 a share. If the stock price should remain constant, then
the dividend yield would increase.
The issuance of new equity shares is a cash flow from
the financial markets to a firm
The Securities Act of 1933 focuses on
the issuance of new securities.
The interest tax shield is a key reason why
the net cost of debt to a firm is generally less than the cost of equity.
In a reverse stock split,
the number of shares outstanding decreases but owners' equity is unchanged.
Observation and research shows that
the percentage of corporations paying dividends has increased since the Year 2002.
The underlying assumption of the dividend growth model is that a stock is worth
the present value of the future income provided by that stock.
All else constant, the net present value of a typical investment project increases when
the rate of return decreases
A negative covariance between the returns of Stock A and Stock B indicates that
the return on one stock will exceed that stock's average return when the second stock has a return that is less than its average.
A stock with a beta of zero would be expected to have a rate of return equal to
the risk-free rate
The intercept point of the security market line is the rate of return that corresponds to
the risk-free rate
Managers are probably best qualified to predict when
their company's stock is overvalued.
MM Proposition I, with tax, supports the theory that
there is a positive linear relationship between the debt-to-equity ratio and firm value.
If you want to receive the recently declared dividend on ABG stock, you must purchase your shares _______ or more business day(s) prior to the date of record.
three
Last year, Theo purchased a fixed-rate, 7-year bond at par that has a coupon rate of 6.5 percent. If the current market rate for this type and quality of bond is 6.8 percent, then he should expect
to realize a capital loss if he sold the bond at today's market price.
The highest and lowest prices at which a stock has traded over a period of time is called its
trading range
Given the vast resources available to mutual fund managers, these managers on average have generally
underperformed the market on a risk-adjusted basis
Corporations in the U.S. tend to
underutilize debt
When selecting a capital structure, managers should aim to maximize the
value of the firm for its shareholders.
Researchers have found that over long periods of time
value stock may outperform growth stocks on a risk-adjusted basis but no firm conclusion can be drawn.
If you live in a remote area with limited access to the news but do a lot of historical research on firms, you would prefer that the financial markets be ____ form efficient so you can have an advantage in the marketplace.
weak
The value of a firm is maximized when the
weighted average cost of capital is minimized.
The internal rate of return
will provide the same accept/reject decision as NPV when cash flows are conventional and projects are independent
Shareholders are more apt to prefer a high dividend payout if a firm
will spend the funds on a high-premium acquisition if the dividend is not paid.
The optimal capital structure of a firm
will vary over time as taxes and market conditions change
Issuing debt instead of new equity in a closely held firm more likely causes owner-managers to
work harder than they would if equity had been issued.
On the date of record, the stock price drop related to the dividend is
zero because the adjustment occurs on the ex-dividend date.
Your desired portfolio beta is 1.2. Currently, your portfolio consists of $2,300 invested in Stock A with a beta of 1.43 and $3,800 in Stock B with a beta of 0.79. You have an additional $1,500 to invest and want to divide it between Stock C with a beta of 1.59 and a risk-free asset. How much should you invest in the risk-free asset?
−$279.25 Portfolio value = $2,300+ $3,800 + $1,500 = $7,6001.2= 1.43($2,300 / $7,600) + 0.79($3,800 / $7,600) + 1.59(x / $7,600) + 0[($1,500 -x) / $7,600]x= $1,779.25Risk-free asset = $1,500 − $1,779.25 = −$279.25This implies riskless borrowing of $279.25 along with an investment of $1,779.25 in Stock C.
