Investments

Which form of Efficient Market Hypothesis reflects all information including insider information? A. Strong Form B. Semi-strong form C. Weak form D. Strong and semi-strong forms E. All three forms

: A Strong form fully reflects all information, public or private.

If Rm (the return on the market) is 10% and Rf (the risk-free rate) is 6%, then what is the stock risk premium if the security has a beta of 1.4? A. 5.6% B. 8.4% C. 10% D. 14%

A (10% - 6%) 1.4 = (.04) 1.4 = 5.6% (The formula for stock risk premium

Stock ABC has an average (mean) return of 16% with a standard deviation of 16%. Within what range could an investor expect a return to fall 95% of the time? A. -16% to 48% B. 0% to 32% C. 16% to 32% D. 0% to 16% E. 16% to 48%

A 16% ± 16% ± 16 = -16 to 48%

In comparing index mutual funds to exchange traded funds (ETFs), ETFs have which of the following advantages? I. ETFs can be bought on margin. II. ETFs can be sold short. III. ETFs can be bought or sold throughout the trading day. IV. Trading orders can include stop-loss and limit orders. A. All of the above B. I, II C. II, III, IV D. III, IV E. III

A All of these are advantages unless you make a wrong decision and lose money.

Using Question 14 with a 12% cap rate, what is the maximum price you would advise the client to pay? A. $545,750 B. $914,500 C. $975,000 D. $983,333

A Intrinsic Value = NOI = $65,490 = 545,750 Cap Rate .12

An investor wants to immunize his/her bond portfolio. Immunization will lower which of the following? A. Interest rate risk B. Purchasing power risk C. Principal risk D. Liquidity risk E. Market risk

A Duration is used to compare interest rate risk between bonds with different maturities and coupons. It can be used to immunize a bond from loss of principal due to interest rate changes.

Which bond would be the least affected by an interest rate change? A. Short duration bond B. Long maturity bond C. Low coupon bond D. Large duration bond

A The other bonds would be affected more.

The annual returns for XYZ for the past three years were 8%, 12%, and -6%. What is XYZ's geometric return? A. 4.12% B. 4.37% C. 4.67% D. 8.64%

B (1.08 x 1.12 x .94) = (1.137) 1.137 FV, 1 ± PV, 3n = 4.37%

What is the approximate change in the price of a $1,000 bond when interest rates increase by 1.56%, the bond duration is 8 years, and the yield to maturity is 4%? A. -$113.68 B. -$120.00 C. +$113.68 D. +$120.00

B -8 {.0156 ÷ 1.04} = -8(.015) = -12% $1,000 x -12% = -$120.00

David invests $15,000 (U.S. dollars) in Tex Mex Foods (Mexican Exchange) when the exchange rate is 65 pesos to the dollar. Tex Mex increases in value by 15%. If David sells Tex Mex when the exchange rate is 75 pesos to the U.S. dollar, what will he receive in U.S. dollars? A. $14,625 B. $14,950 C. $15,000 D. $17,250

B Initially invested $15,000 x 65 = 975,000 Pesos + 15% increase in Tex Mex value 146,250 Pesos 1,121,250 Pesos Convert to U.S. dollars 1,121,250 ÷ 75 = $14,950

A client buys two puts. October ABC put @$50 January XYZ put @ $30 ABC selling @ $52 XYZ selling @ $26 What is the intrinsic value of the two options? A. $-2/$4 B. $0/$4 C. $0/$-4 D. $2/$-4

B Think simple — You cannot have a negative intrinsic value. Only one answer has no negative.

The standard deviation of variable X is .30. The standard deviation of variable Y is 0.15. The covariance between X and Y is 0.0124. This correlation between X and Y is which of the following? A. .20 B. .24 C. .28 D. .40

C .0124 ÷ (.3 x .15) = .0124 ÷ .045 = .2756

If a fund has a beta of 1.2 in relation to the S&P 500, how much would the fund be expected to move if the S&P 500 decreased by 15%? A. Lose 2.4% B. Lose 10% C. Lose 18% D. Lose 76% E. Lose 14%

C 1.2 x .15 = .18

Mrs. Blanchard lives in New York City (Manhattan). She is in a 22% federal tax bracket and pays 8% NY state tax and 3% NY city tax. If she purchases Treasury bonds that pay 5%, what is her after-tax rate of return? A. 3.35% B. 3.38% C. 3.9% D. 4.5% E. 5.6%

C Treasuries are not subject to state or city taxes but are subject to federal tax. 5% (1-.22) = 3.9%

A client purchased Steel, Inc., for $10,000. The stock paid a $500 dividend per year. The client sold the stock for $20,000 after two years. What is the holding period return? A. 10% B. 55% C. 80% D. 110%

D HPR $20,000 + $1,000 - $10,000 = 110% $10,000

Which of the following is a source of systematic risk? A. Default risk B. Liquidity risk C. Manager risk D. Market risk E. Political risk

D PRIME is systematic risk, M = market risk.

Harry Potter has a four year time horizon. Which of the following investments would you advise him to buy? A. Growth mutual funds B. REIT C. Balanced fund D. Immunized bond portfolio E. Gold fund

D Remember the definition of immunization. The duration of the portfolio is made equal to a pre-selected time horizon.

Which bond would be most affected by an interest rate change? A. Short duration bond B. High coupon bond C. Short maturity bond D. Long maturity bond

D The other 3 bonds would be little affected. Notice, the question does not ask what is least affected.

A put option with a strike price of $125 is selling for $4 when the market price of the underlying stock is $115. What is the intrinsic value of the put? A. 0 B. -6 C. 6 D. -10 E. 10

E It is $10 in the money. The fact that the premium is $4 is irrelevant to the intrinsic value.

XYZ Company's stock closed yesterday with the following data: Closing price $50 Dividend $2 Earnings per share $3 Trading range $50 - $52 What is the stock's current yield? A. 4.0% B. 6.0% C. 66.7% D. 5.8% E. 3.8%

:A $2 ÷ $50 = 4%

Claudy owns a bond with a par value of $1,000. The bond matures in 10 years. The bond has a 6% coupon (paid semiannually). Comparable debt yields 8%. What is the intrinsic value of Claudy's bond? A. $864.10 B. $880.41 C. $1,000.00 D. $1,041.58

A

Which of the following is true? I. A negative correlation coefficient will reduce the portfolio risk. II. A negative correlation coefficient will increase the portfolio risk. III. A negative correlation coefficient will make the beta negative. IV. A negative correlation coefficient will increase the portfolio standard deviation. A. I, III B. II, III C. II, IV D. III, IV E. I

A A negative correlation will reduce the portfolio beta. The formula for beta includes the correlation coefficient. When it is negative, the beta will be negative.

At the beginning of the year, one U.S. dollar could buy 80 Japanese yen. At the end of the year, one U.S. dollar could buy 100 Japanese yen. What happened to the U.S. dollar during the year? A. The U.S. dollar was revalued. B. The U.S. dollar was devalued. C. The U.S. dollar was inflated. D. The U.S. dollar was deflated

A By definition, the U.S. dollar was revalued. Revaluation refers to an increase in the currency's value.

Can EE bonds be owned by an UTMA account? A. Yes B. No C. It depends on who is the custodian of the account. D. It depends on the parent's tax bracket.

A EEs not EE education bonds can be owned by an UTMA

Harry is interested in purchasing just one fund. Which fund do you suggest? A. Global fund B. International fund C. S&P 500 Index fund D. Growth fund

A Global funds would give Harry the greatest diversification (worldwide plus U.S. issues).

Assume that Harry can choose between buying 100 shares of stock at $300 per share or buying a call option ($300 exercise price) for $20. How much can he lose if the stock falls by 25% and the option expires worthless? I. If Harry buys and sells the stock, he will lose $7,500. II. If Harry buys the option and it expires worthless, he will lose $2,000. A. Both I and II B. I C. II D. Neither I nor II

A If the option expires worthless, the option is considered sold (at expiration) and is treated as a short-term loss. $30,000 x .25 =$7,500. The concept is even more important. He will lose less money with the option purchase (maximum $300). If he buys the stock, the loss is $7,500. The option cost was $20 x 100 = $2,000. Options are always 100 shares.

Which of the following is not an anomaly? A. Random walk B. Value Line phenomenon C. Neglected firm effect D. P/E effect

A Random walk deals with security prices incorporating new information.

Which of the following investments (rate of returns shown) has the highest standard deviation? Year Stock 1 Stock 2 Stock 3 1 -10% 10% 0% 2 20% 15% 20% 3 30% 20% 20% 4 -15% -10% 0% A. Stock 1 B. Stock 2 C. Stock 3

A Refer to keystrokes in the lesson. You must know how to write the keystrokes as they will NOT be given on the exam. Stock 1: 22.13 Stock 2: 13.15 Stock 3: 11.55

Which of the following statements about a mutual fund prospectus is most accurate? A. The SEC considers projections in a mutual fund prospectus to be misleading. B. Returns used in performance projections must accurately reflect historical performance. C. The prospectus requirement applies to both closed-end and open-end funds. D. SEC rules prohibit graphs showing performance in a mutual fund prospectus.

A The SEC prohibits projections of mutual fund future performance. If performance return assumptions are not achieved, prospective buyers may be mislead. Historical (past) performance graphs are permitted. Other than at the initial public offering, the prospectus requirement does not apply to closed-end funds. Mutual fund prospectus questions do appear on the exam.

Which of the following is true about GNMAs? I. If mortgage rates decrease, prepayment may increase. II. The amount received each month can vary. III. The certificates are guaranteed by the U.S. Government. IV. Payments include interest and principal. V. The realized yield on the bonds can be somewhat variable. A. All of the above B. II, III, IV C. II, IV D. III, IV, V E. I, III, IV

A The amount received each month and the realized yield on the certificates are somewhat variable

Which type of entities would buy preferred stock paying a high dividend? I. Pension plan II. Individual in a 12% bracket III. Regular C corporation with excess funds to invest IV. Spouses in a high 37% tax bracket A. I, II, III B. I, II, IV C. I, II D. II E. II, IV

A The pension plan would buy for income. The individual would buy because they would pay no tax (dividends in a 12% bracket are subject to 0% tax). Regular C corporation was an answer to a prior question. Test taking: If II and III are correct, the answer has to be A. Answer IV will result in the dividend being taxed at 20% (37% bracket). Answer IV is not a bad answer, but Answers I, II, and III are better because of the tax results.

ABC owns a large citrus grove. ABC is concerned about an oversupply of South American juice being imported into the U.S. Which of the following hedge positions should ABC take? A. A short hedge - ABC should sell OJ futures contracts because it is hedging against lower OJ prices B. A short hedge - ABC should sell OJ futures contracts because it is hedging against higher OJ prices C. A short hedge - ABC should buy OJ futures contracts because it is hedging against lower OJ prices D. A long hedge - ABC should buy OJ futures contracts because it is hedging against lower OJ prices

A When ABC owns the OJ, it is long in OJ. (However, it does not yet have the orange juice. It will be long when the oranges are harvested and juice squeezed.) ABC would hedge against lower orange juice prices in the future by going short (selling) a contract of orange juice at today's prices for delivery tomorrow (when selling prices may be lower). This would hedge against the South American juice reducing OJ prices. In Answer C, they are buying contracts. This means owning again. Owning does not offset owning.

If the correlation (R) is .65 which performance measure would you use? A. Sharpe B. Treynor C. Jensen D. Alpha

A You must square the correlation (R) of .65 that means R2 is .4225. This is below 60 and you should use Sharpe. Answers C and D are the same and cannot be correct.

A portfolio that is positioned outside (above) the efficient frontier is: A. Unattainable B. Attainable C. Inefficient D. Optimal

A Unattainable/not feasible

Company X does a 5:2 split. If the client owns 1,000 shares of company X, how many new shares will be issued? A. 1,000 B. 1,500 C. 2,500 D. 5,000

B 5/2 x 100 = 5,000/2 - 2,500 However, the client already owns 1,000. He/she will get 1,500 more.

As a financial planner, which option would best address the specific risk of a high impact/low probability event? A. Adequate umbrella coverage B. Stress testing the client's holdings with Monte Carlo simulations C. Having a diversified portfolio D. Having insurance

B Answer A only helps with lawsuits. Answer D is a bit vague, and may HILP events cannot be reasonably insured against, like the collapse of a government or disasters so large insurance companies cannot pay the claims. Answer C looks good, but the best answer is to stress test that diversified portfolio through simulations that include protracted periods of terrible market conditions.

Which of the following statements about calls and puts are true? A. A writer of a call expects the price to stay steady or perhaps rise in the near future. B. When the market price of a stock is less than the exercise price of the option, the put is in the money. C. The buyer of a naked call has unlimited loss potential. D. If the underlying stock is trading at $55, the intrinsic value of a call with a strike price of $60 is $5.

B Answer A would have been correct if it said fall in the near future. Answer C is wrong. The seller of a naked call has unlimited loss potential. Answer D is wrong. The option is trading out-of-the-money. (Intrinsic value is zero.)

U.S. Treasury securities are subject to which of the following risks? I. Credit risk II. Purchasing power risk III. Marketability risk IV. Default risk A. I, IV B. II C. II, III D. I, II, III, IV

B At this time very little credit, marketability, and default risk exists.

A client owns 10,000 shares of a stock worth $2 a share. The company declares a 10 for 1 reverse split. After the split, how many shares will the client own? A. 500 B. 1,000 C. 2,000 D. 20,000

B Before the split, 10,000 at $2 = $20,000 After the split, 1,000 at $20 = $20,000

You are given the following information on a publicly-traded company: Book value $10/share Stock outstanding 10 million shares Common dividends paid $.20/share EPS $1.90 What is the dividend payout ratio from the data above? A. 2.1% B. 10.53% C. 19% D. 20.2%

B Dividend payout ratio = $.20 = 10.53% $1.90

Can EE Education bonds be owned by an UTMA account? A. Yes B. No C. Not enough information is known about the parents AGI D. Without the age of the parents there is no answer

B EE Education bonds can only be owned by a parent or someone older than 24. The UTMA does not qualify. It is owned by the child. UTMAs can own EE bonds, but not EE education bonds.

On July 30th, an XYZ DEC 75 call has a premium of $8, and XYZ shares have a market price of $78. Which of the following are true? I. The call has no intrinsic value. II. The call has an intrinsic value of $3. III. The call has an intrinsic value of $5. IV. The call has a time value of $3. V. The call has a time value of $5. A. I, V B. II, V C. III, IV

B IV = MP (78) - EP (75) = 3 points in the money; therefore, it has an intrinsic value of $3. The rest of the premium represents the time premium.

Shannon recently purchased a bond for $900 with a 4% coupon. It will mature in 20 years, but it can be called in 10 years at $1,035. What is the yield-to-call? A. 3.5% B. 5.58% C. 5.70% D. 5.98%

B NOTE: HP 10BII and TI BAII are set in 2P/Y HP 10BII HP 12C TI BAII YTC 5.58% $900, ±, PV $900, CHS, PV $900, ±, PV $1,035, FV $1,035, FV $1,035, FV 10, gold, xP/YR 10, enter, 2, x, n 10, 2nd, xp/YR, N 40, ÷, 2, PMT 40, enter, 2, ÷, PMT 40, ÷, 2, PMT I/YR i, 2, x CPT, I/Y

With Regulation T at 50%, your client purchases 100 shares of XYZ at $70 per share and simultaneously purchases an XYZ May 70 put for a premium of $4. What is the minimum amount of cash the client must put up using margin? A. $3,700 B. $3,900 C. $7,000 D. $7,400

B The 100 shares of stock at $70 are marginable at 50%. Options are not marginable securities. The full amount of the option cost must be paid in cash. 50% of $7,000 plus the put premium of $400 is $3,900.

When compared to each other, the geometric mean is always ___________ to the arithmetic mean. A. greater than or equal to B. less than or equal to C. less than D. greater than E. never equal to

B The easiest way to think about this is to use an example. If you invest $1,000 and it makes 50% in the first year, the geometric and arithmetic mean would be equal (up 50%). If you then lost 50% in the second year, the arithmetic mean would be 0%. This is not accurate when it comes to money. You would have $750, which is a geometric mean of -13.3975% per year (less than 0).

What is Mr. King's required rate of return if the Rf (T-bill rate) is 2.5%, his beta is 1.0, and the Rm (market return) is 400 basis points above the T-bill rate? A. 4.5% B. 6.5% C. 9% D. 13%

B r = Rf + (Rm - Rf)B (The required rate of return) r = 2.5% + (6.5% - 2.5%) 1 = .065 = 6.5% 400 basis points is 4% 4% + 2.5% = 6.5%

A stock is selling for $28.50. A financial analyst determines that the proper P/E ratio is 50 and that the firm will earn $.50. The stock pays no dividend. A. The stock is undervalued. B. The stock is overvalued.

B Current market price = $.50 x 50 =$25. At $28.50 per share, the stock is overvalued.

Active investment strategies include which of the following? I. Dollar cost averaging II. Mutual fund switching III. Market timing IV. Buying an index fund A. I, II, III B. II, III C. II, IV D. IV

B Dollar cost averaging and buying an index fund are passive investment strategies.

Sam purchased a unit investment trust. He is confused about some issues. Which of the following are true? I. This is considered a passive investment technique. II. The unit investment trust will self-liquidate. III. Sam can trade the unit investment trust on the secondary market. IV. Payments can be income and/or return of principal. V. There is a continuous offering and redemption. A. All of the above B. I, II, III, IV C. I, II, IV D. II, III E. II, IV

B There is not a continuous offering and redemption. That's the wording for mutual funds. The UIT units may be sold back to the sponsor. Think of them as shares.

Harry buys stock (100 shares) at $60 per share on margin (50%). The margin interest is 12% annually. After 3 months, he sells the stock for $65. What is his holding period return? A. 6.83% B. 8.83% C. 13.67% D. 16.67%

C ($6,500 - $3,090) - $3,000 = $410 = 13.67% (HPR) $3,000 $3,000 Factor in the margin interest ($90 for the quarter). He only bought 100 shares. He only paid for 50 shares. The other 50 shares were bought on margin.

Ms. Thomas (AGI $60,000) had her first child this year and would like to save for her daughter's college education on a tax advantaged basis. After the 2008 stock market decline, Ms. Thomas has become a very conservative investor and she is still concerned about the overall state of the economy. Which option should she pursue for this goal? A. Open an UTMA and invest in EE bonds since they are guaranteed by the U.S. Government. B. Open a 529 college savings plan and invest in a target date fund since it will have a higher return. C. Open a Treasury Direct account and invest in I bonds since this will quell her fears about the economy D. Open an UTMA and invest in TIPS since these are both guaranteed by the government and will help quell her fears about the economy.

C Answer A is wrong because she will lose the education tax savings by placing the EE bonds in an UTMA. Since she is very conservative, Answer B will probably be too much exposure to the stock market. The interest and inflation adjustments on TIPS will be taxable in the UTMA and may produce kiddie tax. The I bonds are the best answer since she can defer taxes on the growth and be exempt from taxes if the proceeds are used for education.

The Sharpe ratio does which of the following? I. Assumes the portfolio is well-diversified. II. Assumes the portfolio is not diversified. III. Compares the actual return to the expected return. IV. Standardizes performance by the portfolio's beta coefficient. A. I, III, IV B. II, III C. II D. I, II

C Answers I, III, and IV refer to the Jensen index.

What happens when the yield curve is inverted? A. Long-term rates go down B. Short-term rates go down C. All interest rates go up D. Inflation is decreasing

C Both long-term rates and short-term rates go up. Short-term rates go up more than long-term rates but the whole curve moves up because inflation is increasing and affecting the short term bonds faster than the long term bonds.

Which of the following strategies are profitable in a falling market? I. Buying a call II. Buying a put III. Selling a naked call IV. Selling a put A. I, II B. I, IV C. II, III D. III, IV E. I

C Buying a call and selling a put are profitable strategies in a rising market. Buying a put and selling a naked call are profitable in a falling market.

Which of the following is true about EE bonds? I. They are marketable investments. II. They are purchased at their face value. III. Investors can declare the interest annually or at redemption. IV. Interest is subject to federal income tax. V. Interest is paid semiannually. A. I, III, IV, V B. I, III, IV C. II, III, IV D. II, V

C EEs are not marketable investments. They are now purchased at full face value

Which investment below would give you the greatest protection against inflation as the owner of the property? A. A 20 unit apartment complex in the suburbs B. A 15 unit retail strip center in an uptown urban area C. A 200 room hotel by the airport D. A 10 story office building downtown

C First, only the type of property is important here, not the size or location. To get the answer you have to think about rental agreements. The tenants of office buildings and strip malls sign long term leases (5-10 years). This means you cannot raise the rent for that entire time. You could raise the rent in an apartment every 6-12 months, but in a hotel you could raise the rent every night to keep up with inflation.

Bart is an investor who follows a buy-hold strategy. Each quarter he reviews his portfolio by focusing on each stock's quarterly financial statements. Occasionally he repositions his portfolio based on this research. He is using which approach? A. Anomalies B. Markowitz C. Weak form EMH D. Technical analysis

C He is using fundamental analysis. Weak form says fundamental analysis may produce superior results.

Random walk hypothesis suggests which of the following? A. That technical analysts can outperform the market B. That fundamental analysts can outperform the market C. That the next price change of a stock is unrelated to past price behavior D. That security pricing reflects all known information

C If prices move randomly, technical analysis is useless. Weak form is related to, but not identical with, random walk; therefore, fundamental analysis could be an answer. Answer C is the definition of random walk, and Answer D is the definition of EMH.

Mr. Smith (37% federal tax bracket) lives in New York City. He bought EE education bonds for his grandchildren (who also live in New York City) some years ago. If he redeems the bonds for his grandchildren's education, taxation will be which of the following? A. The interest is taxable at federal, state, and local rates (his bracket) B. The interest is taxable at federal, state, and local rates (his grandchildren's bracket) C. The interest is taxable at federal rates (his bracket) D. The interest is taxable at state and local rates (his bracket) E. No tax

C In order to qualify for the education interest exclusion, the taxpayer generally must be the parent. The grandparent can take the exclusion only if the grandchild is the grandparent's dependent (cannot make that assumption). At a 37% federal tax bracket, his income exceeds the EE phaseout. The bond's interest is subject to federal but not state and local taxes.

You are given the following information on a publicly-traded company: Book value $10/share Stock outstanding 10 million shares Common dividends paid $.20/share EPS $1.90 What is the return on common equity from the data above? A. 2.1% B. 10.53% C. 19% D. 20.2%

C ROE = $1.90 = 19% $10

Mr. and Mrs. Wealthy have a 2 year old son. They want to fund for medical school using EE bonds in an UTMA account. Their tax bracket is always 37% plus additional state income taxes. They plan to gift $10,000 into EEs per year until they have gifted $100,000 into the account. If 10 year Treasury notes yield 2%, how do you feel they should treat the EEs tax-wise? A. Wait until redemption in 20 years and pay the tax at the son's low tax bracket. B. Wait until redemption in 20 years and claim an exemption under the EE education bond exclusion. C. Have the interest taxed each year to the son. D. EE bonds are not subject to tax.

C The bonds have an option of interest being taxed each year. Currently with the standard deduction and 10% bracket, taxation will be minimal. Even when the entire $100,000 is gifted, there may be minimal taxation. Answer B is incorrect. The money is in an UTMA account. Answer D is incorrect. EEs are subject to federal taxation. Answer A is not a bad answer. Answer C just takes more advantage of the tax law for kiddies. NOTE: 2% is only $2,000 for the year when $100,000 is in the account, which is below the kiddie tax threshold.

If a client wanted to purchase a mutual fund that would have the lowest correlation with a U.S. common stock fund, which fund should he/she select? A. Global fund B. International fund C. Gold fund D. Emerging markets fund

C The correlation coefficient between the U.S. market and an emerging markets fund is around .7 or .8. Gold continues to have a near zero correlation. Emerging markets: Less developed countries Global: World (including U.S.) International: Non-U.S./foreign only

If interest rates rise, which of the following would experience the greatest percentage drop in value? A. T-bills B. Treasury notes C. 30-year Treasury bonds D. GNMAs

C The longer the maturity, the more volatile the price. The longest maturity is T-bonds.

Which of the following statements is true? A. The shorter the time is to maturity, the greater the potential for a bond's price fluctuation. B. Duration is directly related to coupon rate. C. Duration and maturity are positively correlated. D. Duration is directly related to yield to maturity. E. The higher the market interest rate is, the greater the relative price fluctuations of bonds.

C The other answers are incorrect.

Which of the following are consistent with belief in the EMH? I. An individual investor can randomly select a diversified portfolio of securities and earn a return consistent with the market as a whole. II. Once a portfolio has been selected, there is no need to change it. III. Technical analysis outperforms a buy-and-hold strategy. IV. The prices of securities do not reflect all available information. A. I, II, III B. I, II, IV C. I, II D. III, IV E. I, IV

C The prices of securities fully reflect all information. Technical analysis will not produce superior

Don Watson recently purchased a bond for $1,135 with a 10% coupon. It will mature in 10 years, but can be called in 5 years at $1,100. He sells the bond in two years for $1,200. What is the holding period return? A. 5.70% B. 14.53% C. 23.35% D. 26.50%

C [($1,200 + $200) - $1,135] ÷ $1,135 = 23.35% 2 years is $100 x 2.

Given the following data on Fund X: Realized return of Fund X 12% Beta Fund X .85 Realized return of market 10% If the risk-free rate is 2%, what is the alpha of the fund? A. -3.64% B. -3.2% C. 3.2% D. 8.8%

C ap =rp-[rf+(rm-rf)Bp]= .12 - [.02 + (.10 - .02) .85] = 3.2% The question asked you to calculate the alpha. There is no shortcut to the calculation.

In general, bonds... I. pay interest at the beginning of the period. II. pay interest at the end of the period. III. are issued at par value. IV. pay semiannual interest. A. I, III B. I, IV C. II, III, IV D. III, IV

C If you also considered zeros as part of the answer, then there is no answer. All the answers were wrong.

The following defines what investment technique? This technique is a method in which an investor first looks at trends in the general economy and next selects industries and then companies that should benefit from those trends. A. Fundamental analysis B. Technical analysis C. Top-down method D. Bottom-up method

C This defines top-down.

Alice is in a 32% tax bracket. She owns $10,000 of public purpose municipal bonds. They pay her $280 in interest semiannually. What pretax yield on corporate bonds is comparable to the yield on Alice's municipal bonds? A. 2.8% B. 4.18% C. 5.6% D. 8.23%

D $28 x 2 = 5.6% $1,000 5.6% = 8.23% 1 - .32

A 13-unit apartment project costs $700,000. It has 13 two-bedroom apartments renting for $750 per month. Laundry income is $1,000 per year. Vacancy and collection losses are 7% of potential gross income. Operating expenses are $44,250 for this year. Calculate the yearly net operating income (NOI). A. ($19,592) B. $43,672 C. $64,560 D. $65,490 E. $65,560

D 13 two-bedroom renting at $750/month = $9,750 X 12 Gross Rental Income = $117,000 Other Income = + 1,000 Potential Gross Income (PGI) = $118,000 less vacancy and collection (7% PGI) = - 8,260 Effective Gross Income = $109,740 less operating expenses* (total) = - 44,250 Net Operating Income (NOI) = $ 65,490

Which of the following bonds produces the most income per initial cost using an annual coupon? A. 6.5% coupon purchased for $800 B. 7.5% coupon purchased for $850 C. 10% coupon purchased for $1,100 D. 11% coupon purchased for $1,200

D A. $65 / $800 = 8.13% B. $75 / $850 = 8.82% C. $100 /$1,100 = 9.09% D. $110 /$1,200 = 9.17%

What can always be purchased at NAV? A. Closed-end fund B. Open-end fund C. UIT D. No-load balanced mutual fund E. Answers B and D

D Answer D is the best answer since open-end funds could be load or no-load. Also, the word "always" makes Answer D more correct.

Which of the following would be considered a "black swan" or high impact/low probability risk for someone living in that region? A. A wildfire in California B. A hurricane in Florida C. A drought in Arizona D. An earthquake in New York City

D Answers A, B, and C are all events that happen with some frequency in those areas and would be considered high impact/high probability events. Since New York City does not have regular seismic activity, an earthquake there would be quite a surprise, but there are six fault lines running through Manhattan.

A client currently owns stocks in various U.S. companies (25-30). The client expresses a desire to diversify his portfolio. Which of the following choices best achieves the greatest diversification and risk reduction by buying more investments? A. Purchase additional bonds from the same companies but with different maturity dates (laddering) B. Buy stocks in 5 more blue chip U.S. companies C. Buy a global fund D. Buy an international fund

D By buying the international fund, the client improves diversification (low correlation). The global fund has some U.S. stocks. Bonds may have a low correlation, but they have risk. Come back to this question after reviewing duration (use a duration of 10 with a YTM of 4% and an interest change of +1). Somewhat subjective.

EMH suggests that financial planners should direct their activities to selecting securities based on which of the following? A. Fundamental analysis B. Technical analysis C. Security selection D. Risk-return profile

D EMH implies that because analysts as a group are so effective, the efforts of an individual in trying to find mispriced securities may be a waste of time.

Raul is 48 and has been approached by a broker selling an Equity Index Annuity. He is attracted to the product because it seems to guarantee his principal on the downside and give him stock market returns the upside. You know these products come with high fees and restrictions. What would be the best alternative to show him if his time horizon is 10 to 15 years? A. How to use protective puts as insurance against stock market declines B. A standard diversified growth portfolio (70% stocks, 20% bonds, 5% cash) C. A portfolio of 60% global stocks and 40% 7% T-bonds guaranteed by the U.S. government D. A portfolio of 60% global stocks and 40% T-notes guaranteed by the U.S. government with a 1% coupon

D He can guarantee his principle in 10-15 years with the T-notes and anything he makes in stocks will just be extra. T-bonds are volatile and have 30 year time horizon. Answer B will not ensure a return of principle. Most people are attracted to Equity Index Annuities because they have lost money in growth portfolios. Answer A is tough to pick without knowing if he can even trade options.

Which of the following is false about I bonds? I. Series I bonds earn interest up to 30 years. II. Series I bonds accrue earnings based on both a fixed rate of return and the annual inflation rate. III. The special tax benefits available for education savings with Series EE bonds also apply to Series I bonds if owned in a UTMA. IV. The difference between the purchase price and the redemption value is taxable interest (redeemed or matures). A. All of the above B. I, II C. I, II, III D. II, III E. III, IV

D I bond earnings are based on both a fixed rate of return and the semiannual inflation rate. I bonds are taxed the same way EEs are taxed. Like EE bonds, the I bonds only earn interest for up to 30 years. They, like EE bonds, do not qualify for Educational Bond Status if owned in a UTMA.

Loise recently purchased a zero-coupon bond for $475. It will mature in 10 years, at which time it will be worth $1,000. What is the yield to maturity? A. 7.26% B. 7.13% C. 7.72% D. 7.58%

D NOTE: Zeros are calculated using semiannual periods (in end mode). HP 10BII and TI BAII are in 2/PY. HP 10BII HP 12C TI BAII YTM 7.58% $475, ±, PV $475, CHS, PV $475, ±, PV $1,000, FV $1,000, FV $1,000, FV 10, gold, xP/YR 10, enter, 2, x, n 10, 2nd, xp/YR, N I/YR i, 2,x CPT, I/Y

Your client is considering the purchase of an apartment complex with the following anticipated financial characteristics. Potential Gross Income (PGI) = $10,000,000 Vacancy Rate = 15% of PGI Operating Expenses = 30% of PGI Capitalization Rate = 10% Based on this information, what is the maximum price you would advise the client to pay? A. $1,500,000 B. $4,500,000 C. $5,500,000 D. $55,000,000

D Potential Gross Income $10,000,000 less vacancy (15%) and operating expenses (30%) of PGI -4,500,000 (45%) Net Operating Income (NOI) $5,500,000 Intrinsic Value = NOI = $5,500,000 = $55,000,000 Cap Rate .10

Mr. Segura is retired and living on the income from his investments. He recently placed 20% of his portfolio in a RELP. The RELP has an excellent manager and has return no less than 10% per year over the past 20 years. What is the biggest risk Mr. Segura faces with this alternative investment? A. The RELP is too aggressive for a retiree. B. He placed too much of his portfolio in the RELP. C. It may not generate enough income. D. He may be challenged to sell it if he needs to.

D The Board most likely wants the liquidity issues with alternative investments to be the biggest risk. Many retirees invest in real estate because of the income it pays. 20% in a risky asset is still fine as well; many retirees live on the income of rental properties that consist of much more than 20% of their total holdings.

What is the current yield if a $1,000 bond with a 7% coupon is now selling for $945? A. 6.62% B. 7% C. 7.21% D. 7.41%

D This is a discount bond. Its current yield will be more than its coupon rate. Current yield = $70 = 7.41% $945

The risk level quantification of standard deviation is which of the following? I. Volatility II. Systematic risk III. Non-systematic risk IV. Unsystematic risk V. Total risk A. I, II, V B. I, II C. II, V D. III, IV, V

D Answers III, IV, and V refer to standard deviation. Answer I and II refer to beta.

Shares are purchased and redeemed directly with the issuer. A. Closed-end fund B. Open-end fund C. UIT D. No-load balanced mutual fund E. Answers B and D

E

Your client buys 1,000 shares of a high-flying Internet stock at $30. The initial margin is 50%. You inform him that this stock has a 30% maintenance margin. Below what trade price do you tell him to expect both a telephone call from you and margin call? A. $9 B. $15 C. $20 D. $22 E. $21.43

E .5 x $30 = 21.43 .7

An elderly client wants to avoid interest rate risk but needs her investment cash-flow to keep pace with inflation. She prefers not to spend down her principal. You advise your client to invest in which of the following? A. Laddered CDs B. Individual utility stocks C. Balanced fund (40% blue-chip stocks/60% intermediate bonds) D. Split annuity [fixed immediate annuity (distributing immediately) and deferred variable annuity growing until immediate is paid out] E. C and D

E CD returns will not keep pace with inflation. Utility stocks may lose value. Utilities and CDs would be a good choice but is not a choice in this question. The immediate annuity is eventually exhausted, but the deferred annuity's growth should replace the value of the depleted immediate annuity. The immediate payment is offset by the deferred annuity growing. The fund may help offset inflation. Either Answer or D by itself may not be enough to completely answer the question. This is a subjective question/answer. Remember these are for practice.

John is considering adding to his coin and stamp collection. Which of the following is true? A. This is an efficient market. B. Stamps and coins are more marketable than art and antiques. C. Stamps and coins have a small bid-ask margin. D. John would not be subject to the same elements of risk attributable to the stock market. E. The return on physical assets is normally non-correlated with returns on financial assets.

E Inflation, while bearish to stocks and bonds, may be beneficial for collectibles. Answer D is a good answer, but Answer E is the best answer.

"Exchange traded fund" is best described by which of the following? A. Closed-end fund B. Open-end fund C. UIT D. No-load balanced mutual fund E. It has characteristics of both closed and open end funds.

E The answer could be either A or B; therefore, Answer E is the best answer. An ETF may be an open-end or closed-end fund. ETFs are traded on a major exchange. It is possible to find a secondary market for UIT units among brokers and dealers. ETFs are not the same as mutual funds like Answer D implies.

What type of option offers the highest potential to make a profit for your client? A. Writing a covered put B. Writing a covered call C. Writing a naked put D. Writing a naked call E. Buying a call

E The upside of a call is unlimited. Answer A is not a bad answer because the stock's upside is unlimited, but to calculate the net profit of these positions (the short put and long stock), we must reduce the amount of gain by the original cost of the stock less the put premium income (see example below). For Answer E, the only offsetting cost is the call's premium. The call premium is almost certainly lower than the cost of the stock (assuming the stock and call were purchased at the same time). Answer E is the best answer because of the unlimited profit potential. EXAMPLE: If a client buys a naked call (100 shares) on a stock for $1,000 when the stock is $400 per share and it goes to $500, then the client makes $100 x 100 shares = $10,000 for a $1,000 investment. In Answer A if bought the shares $40,000 sold for $50,000 and the option ($1,000), then the client would have made $9,000. Cost is $40,000 (shares) + $1,000 (option).