Question 1

If you randomly select stocks and add them to your portfolio,which of the following statements best describes what you should expect?

Accepted Answer

A) Adding more such stocks will increase the portfolio's expected rate of return. 
B) Adding more such stocks will reduce the portfolio's beta coefficient and thus its systematic risk. 
C) Adding more such stocks will have no effect on the portfolio's risk. 
D) Adding more such stocks will reduce the portfolio's market risk but not its unsystematic risk. 
E) Adding more such stocks will reduce the portfolio's unsystematic, or diversifiable, risk. 
A) Adding more such stocks will increase the portfolio's expected rate of return. 
B) Adding more such stocks will reduce the portfolio's beta coefficient and thus its systematic risk. 
C) Adding more such stocks will have no effect on the portfolio's risk. 
D) Adding more such stocks will reduce the portfolio's market risk but not its unsystematic risk. 
E) Adding more such stocks will reduce the portfolio's unsystematic, or diversifiable, risk.

Question 2

You have purchased a U.S.Treasury bond for $3,000.No payments will be made until the bond matures 10 years from now,at which time it will be redeemed for $5,000.What interest rate will you earn on this bond?

Accepted Answer

A) 3.82% 
B) 4.25% 
C) 4.72% 
D) 5.24% 
E) 5.77% 
A) 3.82% 
B) 4.25% 
C) 4.72% 
D) 5.24% 
E) 5.77%

Question 3

Portfolio P has equal amounts invested in each of the three stocks,A,B,and C.Stock A has a beta of 0.8,Stock B has a beta of 1.0,and Stock C has a beta of 1.2.Each of the stocks has a standard deviation of 25%.The returns on the three stocks are independent of one another (i.e.,the correlation coefficients all equal zero).Assume that there is an increase in the market risk premium,but the risk-free rate remains unchanged.Which of the following statements is CORRECT?

Accepted Answer

A) The required return on Stock A will increase by less than the increase in the market risk premium, while the required return on Stock C will increase by more than the increase in the market risk premium. 
B) The required return on the average stock will remain unchanged, but the returns of riskier stocks (such as Stock 
C)  will increase while the returns of safer stocks (such as Stock 
A)  will decrease. 
C) The required returns on all three stocks will increase by the amount of the increase in the market risk premium. 
D) The required return on the average stock will remain unchanged, but the returns on riskier stocks (such as Stock 
C)  will decrease while the returns on safer stocks (such as Stock 
A)  will increase. 
E) The required return of all stocks will remain unchanged since there was no change in their betas. 
A) The required return on Stock A will increase by less than the increase in the market risk premium, while the required return on Stock C will increase by more than the increase in the market risk premium. 
B) The required return on the average stock will remain unchanged, but the returns of riskier stocks (such as Stock 
C)  will increase while the returns of safer stocks (such as Stock 
A)  will decrease. 
C) The required returns on all three stocks will increase by the amount of the increase in the market risk premium. 
D) The required return on the average stock will remain unchanged, but the returns on riskier stocks (such as Stock 
C)  will decrease while the returns on safer stocks (such as Stock 
A)  will increase. 
E) The required return of all stocks will remain unchanged since there was no change in their betas.

Question 4

Because your mother is about to retire,she wants to buy an annuity that will provide her with $75,000 of income a year for 20 years,with the first payment coming immediately.The going rate on such annuities is 5.25%.How much would it cost her to buy the annuity today?

Accepted Answer

A) $825,835 
B) $869,300 
C) $915,052 
D) $963,213 
E) $1,011,374 
A) $825,835 
B) $869,300 
C) $915,052 
D) $963,213 
E) $1,011,374

Question 5

Alcott's preferred stock pays a dividend of $1.00 per quarter.If the price of the stock is $45.00,what is its nominal (not effective)annual rate of return?

Accepted Answer

A) 8.03% 
B) 8.24% 
C) 8.45% 
D) 8.67% 
E) 8.89% 
A) 8.03% 
B) 8.24% 
C) 8.45% 
D) 8.67% 
E) 8.89%

Question 6

According to the Capital Asset Pricing Model,investors are primarily concerned with portfolio risk,not the risks of individual stocks held in isolation.Thus,the relevant risk of a stock is the stock's contribution to the riskiness of a well-diversified portfolio.

Accepted Answer

A) True 
 B)False

Question 7

You plan to invest some money in a bank account.Which of the following banks provides you with the highest effective rate of interest?

Accepted Answer

A) Bank 1; 6.1% with annual compounding. 
B) Bank 2; 6.0% with monthly compounding. 
C) Bank 3; 6.0% with annual compounding. 
D) Bank 4; 6.0% with quarterly compounding. 
E) Bank 5; 6.0% with daily (365-day) compounding. 
A) Bank 1; 6.1% with annual compounding. 
B) Bank 2; 6.0% with monthly compounding. 
C) Bank 3; 6.0% with annual compounding. 
D) Bank 4; 6.0% with quarterly compounding. 
E) Bank 5; 6.0% with daily (365-day) compounding.

Question 8

You would like to travel in South America 5 years from now,and you can save $3,100 per year,beginning one year from today.You plan to deposit the funds in a mutual fund that you think will return 8.5% per year.Under these conditions,how much would you have just after you make the 5th deposit,5 years from now?

Accepted Answer

A) $18,369 
B) $19,287 
C) $20,251 
D) $21,264 
E) $22,327 
A) $18,369 
B) $19,287 
C) $20,251 
D) $21,264 
E) $22,327

Question 9

Suppose you are buying your first home for $145,000,and you have $15,000 for your down payment.You have arranged to finance the remainder with a 30-year,monthly payment,amortized mortgage at a 6.5% nominal interest rate,with the first payment due in one month.What will your monthly payments be?

Accepted Answer

A) $741.57 
B) $780.60 
C) $821.69 
D) $862.77 
E) $905.91 
A) $741.57 
B) $780.60 
C) $821.69 
D) $862.77 
E) $905.91

Question 10

Assume that the risk-free rate,rRF,increases but the market risk premium, (rM − rRF),declines,with the net effect being that the overall required return on the market,rM,remains constant.Which of the following statements is CORRECT?

Accepted Answer

A) The required return will decline for stocks that have a beta less than 1.0 but will increase for stocks that have a beta greater than 1.0. 
B) Since the overall return on the market stays constant, the required return on each individual stock will also remain constant. 
C) The required return will increase for stocks that have a beta less than 1.0 but decline for stocks that have a beta greater than 1.0. 
D) The required return of all stocks will fall by the amount of the decline in the market risk premium. 
E) The required return of all stocks will increase by the amount of the increase in the risk-free rate. 
A) The required return will decline for stocks that have a beta less than 1.0 but will increase for stocks that have a beta greater than 1.0. 
B) Since the overall return on the market stays constant, the required return on each individual stock will also remain constant. 
C) The required return will increase for stocks that have a beta less than 1.0 but decline for stocks that have a beta greater than 1.0. 
D) The required return of all stocks will fall by the amount of the decline in the market risk premium. 
E) The required return of all stocks will increase by the amount of the increase in the risk-free rate.

Question 11

The coefficient of variation,calculated as the standard deviation of expected returns divided by the expected return,is a standardized measure of the risk per unit of expected return.

Accepted Answer

A) True 
 B)False

Question 12

Because short-term interest rates are much more volatile than long-term rates,you would,in the real world,generally be subject to much more interest rate price risk if you purchased a 30-day bond than if you bought a 30-year bond.

Accepted Answer

A) True 
 B)False

Question 13

Recession,inflation,and high interest rates are economic events that are best characterized as being

Accepted Answer

A) company-specific risk factors that can be diversified away. 
B) among the factors that are responsible for market risk. 
C) risks that are beyond the control of investors and thus should not be considered by security analysts or portfolio managers. 
D) irrelevant except to governmental authorities like the Federal Reserve. 
E) systematic risk factors that can be diversified away. 
A) company-specific risk factors that can be diversified away. 
B) among the factors that are responsible for market risk. 
C) risks that are beyond the control of investors and thus should not be considered by security analysts or portfolio managers. 
D) irrelevant except to governmental authorities like the Federal Reserve. 
E) systematic risk factors that can be diversified away.

Question 14

Which of the following statements regarding a 20-year (240-month)$225,000,fixed-rate mortgage is CORRECT? (Ignore taxes and transactions costs.)

Accepted Answer

A) The outstanding balance declines at a slower rate in the later years of the loan's life. 
B) The remaining balance after three years will be $225,000 less one third of the interest paid during the first three years. 
C) Because it is a fixed-rate mortgage, the monthly loan payments (which include both interest and principal payments) are constant. 
D) Interest payments on the mortgage will increase steadily over time, but the total amount of each payment will remain constant. 
E) The proportion of the monthly payment that goes towards repayment of principal will be lower 10 years from now than it will be the first year. 
A) The outstanding balance declines at a slower rate in the later years of the loan's life. 
B) The remaining balance after three years will be $225,000 less one third of the interest paid during the first three years. 
C) Because it is a fixed-rate mortgage, the monthly loan payments (which include both interest and principal payments) are constant. 
D) Interest payments on the mortgage will increase steadily over time, but the total amount of each payment will remain constant. 
E) The proportion of the monthly payment that goes towards repayment of principal will be lower 10 years from now than it will be the first year.

Question 15

Stock A has a beta of 0.8 and Stock B has a beta of 1.2.50% of Portfolio P is invested in Stock A and 50% is invested in Stock B.If the market risk premium (rM − rRF)were to increase but the risk-free rate (rRF)remained constant,which of the following would occur?

Accepted Answer

A) The required return would decrease by the same amount for both Stock A and Stock B. 
B) The required return would increase for Stock A but decrease for Stock B. 
C) The required return on Portfolio P would remain unchanged. 
D) The required return would increase for Stock B but decrease for Stock A. 
E) The required return would increase for both stocks but the increase would be greater for Stock B than for Stock A. 
A) The required return would decrease by the same amount for both Stock A and Stock B. 
B) The required return would increase for Stock A but decrease for Stock B. 
C) The required return on Portfolio P would remain unchanged. 
D) The required return would increase for Stock B but decrease for Stock A. 
E) The required return would increase for both stocks but the increase would be greater for Stock B than for Stock A.

Question 16

Partners Bank offers to lend you $50,000 at a nominal rate of 5.0%,simple interest,with interest paid quarterly.An offer to lend you the $50,000 also comes from Community Bank,but it will charge 6.0%,simple interest,with interest paid at the end of the year.What's the difference in the effective annual rates charged by the two banks?

Accepted Answer

A) 1.56% 
B) 1.30% 
C) 1.09% 
D) 0.91% 
E) 0.72% 
A) 1.56% 
B) 1.30% 
C) 1.09% 
D) 0.91% 
E) 0.72%

Question 17

What's the future value of $1,500 after 5 years if the appropriate interest rate is 6%,compounded semiannually?

Accepted Answer

A) $1,819 
B) $1,915 
C) $2,016 
D) $2,117 
E) $2,223 
A) $1,819 
B) $1,915 
C) $2,016 
D) $2,117 
E) $2,223

Question 18

Dyer Furniture is expected to pay a dividend of D1 = $1.25 per share at the end of the year,and that dividend is expected to grow at a constant rate of 6.00% per year in the future.The company's beta is 1.15,the market risk premium is 5.50%,and the risk-free rate is 4.00%.What is Dyer's current stock price?

Accepted Answer

A) $28.90 
B) $29.62 
C) $30.36 
D) $31.12 
E) $31.90 
A) $28.90 
B) $29.62 
C) $30.36 
D) $31.12 
E) $31.90

Question 19

A stock's beta measures its diversifiable risk relative to the diversifiable risks of other firms.

Accepted Answer

A) True 
 B)False

Question 20

Bonds A,B,and C all have a maturity of 15 years and a yield to maturity of 9%.Bond A's price exceeds its par value,Bond B's price equals its par value,and Bond C's price is less than its par value.Which of the following statements is CORRECT?

Accepted Answer

A) Bond A has the most interest rate risk. 
B) If the yield to maturity on the three bonds remains constant, the prices of the three bonds will remain the same over the next year. 
C) If the yield to maturity on each bond increases to 8%, the prices of all three bonds will decline. 
D) Bond C sells at a premium over its par value. 
E) If the yield to maturity on each bond decreases to 6%, Bond A will have the largest percentage increase in its price. 
A) Bond A has the most interest rate risk. 
B) If the yield to maturity on the three bonds remains constant, the prices of the three bonds will remain the same over the next year. 
C) If the yield to maturity on each bond increases to 8%, the prices of all three bonds will decline. 
D) Bond C sells at a premium over its par value. 
E) If the yield to maturity on each bond decreases to 6%, Bond A will have the largest percentage increase in its price.

Exam 29: Basic Financial Tools: a Review

If you randomly select stocks and add them to your portfolio,which of the following statements best describes what you should expect?

You have purchased a U.S.Treasury bond for $3,000.No payments will be made until the bond matures 10 years from now,at which time it will be redeemed for $5,000.What interest rate will you earn on this bond?

Because your mother is about to retire,she wants to buy an annuity that will provide her with $75,000 of income a year for 20 years,with the first payment coming immediately.The going rate on such annuities is 5.25%.How much would it cost her to buy the annuity today?

Alcott's preferred stock pays a dividend of $1.00 per quarter.If the price of the stock is $45.00,what is its nominal (not effective)annual rate of return?

According to the Capital Asset Pricing Model,investors are primarily concerned with portfolio risk,not the risks of individual stocks held in isolation.Thus,the relevant risk of a stock is the stock's contribution to the riskiness of a well-diversified portfolio.

You plan to invest some money in a bank account.Which of the following banks provides you with the highest effective rate of interest?

Suppose you are buying your first home for $145,000,and you have $15,000 for your down payment.You have arranged to finance the remainder with a 30-year,monthly payment,amortized mortgage at a 6.5% nominal interest rate,with the first payment due in one month.What will your monthly payments be?

Assume that the risk-free rate,rRF,increases but the market risk premium, (rM − rRF),declines,with the net effect being that the overall required return on the market,rM,remains constant.Which of the following statements is CORRECT?

The coefficient of variation,calculated as the standard deviation of expected returns divided by the expected return,is a standardized measure of the risk per unit of expected return.

Because short-term interest rates are much more volatile than long-term rates,you would,in the real world,generally be subject to much more interest rate price risk if you purchased a 30-day bond than if you bought a 30-year bond.

Recession,inflation,and high interest rates are economic events that are best characterized as being

Which of the following statements regarding a 20-year (240-month)$225,000,fixed-rate mortgage is CORRECT? (Ignore taxes and transactions costs.)

Stock A has a beta of 0.8 and Stock B has a beta of 1.2.50% of Portfolio P is invested in Stock A and 50% is invested in Stock B.If the market risk premium (rM − rRF)were to increase but the risk-free rate (rRF)remained constant,which of the following would occur?

What's the future value of $1,500 after 5 years if the appropriate interest rate is 6%,compounded semiannually?

A stock's beta measures its diversifiable risk relative to the diversifiable risks of other firms.

Bonds A,B,and C all have a maturity of 15 years and a yield to maturity of 9%.Bond A's price exceeds its par value,Bond B's price equals its par value,and Bond C's price is less than its par value.Which of the following statements is CORRECT?

An Overview of Financial Management and the Financial Environment

Risk and Return: Part I

Risk and Return: Part Ii

Bond Valuation

Financial Options

Accounting for Financial Management

Analysis of Financial Statements

Basic Stock Valuation

Corporate Valuation and Financial Planning

Corporate Governance

Determining the Cost of Capital

Capital Budgeting: Decision Rules

Cash Flow Estimation and Risk Analysis

Real Options

Distributions to Shareholders: Dividends and Repurchases

Capital Structure Decisions

Dynamic Capital Structures and Corporate Valuation

Initial Public Offerings, investment Banking, and Financial Restructuring

Lease Financing

Hybrid Financing: Preferred Stock, Warrants, and Convertibles

Supply Chains and Working Capital Management

Providing and Obtaining Credit

Advanced Issues in Cash Management and Inventory Control

Enterprise Risk Management

Bankruptcy, reorganization, and Liquidation

Mergers and Corporate Control

Multinational Financial Management

Time Value of Money

Pension Plan Management

Financial Management in Not-For-Profit Businesses

a Values of the Areas Under the Standard Normal

Filters

Assume that the risk-free rate,r_RF,increases but the market risk premium, (r_M − r_RF),declines,with the net effect being that the overall required return on the market,r_M,remains constant.Which of the following statements is CORRECT?

Stock A has a beta of 0.8 and Stock B has a beta of 1.2.50% of Portfolio P is invested in Stock A and 50% is invested in Stock B.If the market risk premium (r_M − r_RF)were to increase but the risk-free rate (r_RF)remained constant,which of the following would occur?