Question 1

Which of the following statements is CORRECT?

Accepted Answer

A) If you found a stock with a zero historical beta and held it as the only stock in your portfolio, you would by definition have a riskless portfolio. 
B) The beta coefficient of a stock is normally found by regressing past returns on a stock against past market returns. One could also construct a scatter diagram of returns on the stock versus those on the market, estimate the slope of the line of best fit, and use it as beta. However, this historical beta may differ from the beta that exists in the future. 
C) The beta of a portfolio of stocks is always larger than the betas of any of the individual stocks. 
D) It is theoretically possible for a stock to have a beta of 1.0. If a stock did have a beta of 1.0, then, at least in theory, its required rate of return would be equal to the risk-free (default-free) rate of return, rRF. 
E) The beta of a portfolio of stocks is always smaller than the betas of any of the individual stocks.

Question 2

Consider the following information for three stocks,A,B,and C.The stocks' returns are positively but not perfectly positively correlated with one another,i.e.,the correlations are all between 0 and 1. $$\begin{array} { c c c c } 
\text { Stock } & \begin{array} { c } 
\text { Expected } \
\text { Return }
\end{array} & \begin{array} { c } 
\text { Standard } \
\text { Deviation }
\end{array} & \text { Beta } \
\mathrm { A } & 10 \% & 20 \% & 1.0 \
 \mathrm { B } & 10 \% & 10 \% & 1.0 \
\mathrm { C }& 12 \% & 12 \% & 1.4
\end{array}$$ Portfolio AB has half of its funds invested in Stock A and half in Stock B.Portfolio ABC has one third of its funds invested in each of the three stocks.The risk-free rate is 5%,and the market is in equilibrium,so required returns equal expected returns.Which of the following statements is CORRECT?

Accepted Answer

A) Portfolio AB's coefficient of variation is greater than 2.0. 
B) Portfolio AB's required return is greater than the required return on Stock A. 
C) Portfolio ABC's expected return is 10.66667%. 
D) Portfolio ABC has a standard deviation of 20%. 
E) Portfolio AB has a standard deviation of 20%.

Question 3

If its yield to maturity declined by 1%,which of the following bonds would have the largest percentage increase in value?

Accepted Answer

A) A 1-year bond with an 8% coupon. 
B) A 10-year bond with an 8% coupon. 
C) A 10-year bond with a 12% coupon. 
D) A 10-year zero coupon bond. 
E) A 1-year zero coupon bond.

Question 4

Which of the following statements is CORRECT?

Accepted Answer

A) Two firms with the same expected dividend and growth rates must also have the same stock price. 
B) It is appropriate to use the constant growth model to estimate a stock's value even if its growth rate is never expected to become constant. 
C) If a stock has a required rate of return rs = 12%, and if its dividend is expected to grow at a constant rate of 5%, this implies that the stock's dividend yield is also 5%. 
D) The price of a stock is the present value of all expected future dividends, discounted at the dividend growth rate. 
E) The constant growth model takes into consideration the capital gains investors expect to earn on a stock.

Question 5

What is the PV of an ordinary annuity with 5 payments of $4,700 if the appropriate interest rate is 4.5%?

Accepted Answer

A) $16,806 
B) $17,690 
C) $18,621 
D) $19,601 
E) $20,633

Question 6

Which of the following statements is CORRECT?

Accepted Answer

A) If CF0 is positive and all the other CFs are negative, then you cannot solve for I. 
B) If you have a series of cash flows, each of which is positive, you can solve for I, where the solution value of I causes the PV of the cash flows to equal the cash flow at Time 0. 
C) If you have a series of cash flows, and CF0 is negative but each of the following CFs is positive, you can solve for I, but only if the sum of the undiscounted cash flows exceeds the cost. 
D) To solve for I, one must identify the value of I that causes the PV of the positive CFs to equal the absolute value of the PV of the negative CFs. This is, essentially, a trial-and-error procedure that is easy with a computer or financial calculator but quite difficult otherwise. 
E) If you solve for I and get a negative number, then you must have made a mistake.

Question 7

The prices of high-coupon bonds tend to be less sensitive to a given change in interest rates than low-coupon bonds,other things held constant.

Accepted Answer

A) True 
 B)False

Question 8

Which of the following statements is CORRECT?

Accepted Answer

A) Time lines cannot be constructed where some of the payments constitute an annuity but others are unequal and thus are not part of the annuity. 
B) A time line is not meaningful unless all cash flows occur annually. 
C) Time lines are not useful for visualizing complex problems prior to doing actual calculations. 
D) Time lines can be constructed to deal with situations where some of the cash flows occur annually but others occur quarterly. 
E) Time lines can only be constructed for annuities where the payments occur at the end of the periods, i.e., for ordinary annuities.

Question 9

CMS Corporation's balance sheet as of today is as follows: $$\begin{array} { l r } 
\text { Long-term debt (bonds, at par) } & \$ 10,000,000 \
\text { Preferred stock } & 2,000,000 \
\text { Common stock (\$10 par) } & 10,000,000 \
\text { Retained earnings } &\underline{ 4,000,000} \
 \text { Total debt and equity } &\underline{ \$ 26,000,000 }\

\end{array}$$ The bonds have a 4.0% coupon rate,payable semiannually,and a par value of $1,000.They mature exactly 10 years from today.The yield to maturity is 12%,so the bonds now sell below par.What is the current market value of the firm's debt?

Accepted Answer

A) $5,276,731 
B) $5,412,032 
C) $5,547,332 
D) $7,706,000 
E) $7,898,650

Question 10

Your business has just taken out a 1-year installment loan for $72,500 at a nominal rate of 11.0% but with equal end-of-month payments.What percentage of the 2nd monthly payment will go toward the repayment of principal?

Accepted Answer

A) 73.67% 
B) 77.55% 
C) 81.63% 
D) 85.93% 
E) 90.45%

Question 11

Which of the following bonds has the greatest interest rate price risk?

Accepted Answer

A) A 10-year, $1,000 face value, zero coupon bond. 
B) A 10-year, $1,000 face value, 10% coupon bond with annual interest payments. 
C) All 10-year bonds have the same price risk since they have the same maturity. 
D) A 10-year, $1,000 face value, 10% coupon bond with semiannual interest payments. 
E) A 10-year $100 annuity.

Question 12

At a rate of 6.5%,what is the future value of the following cash flow stream?

Accepted Answer

A) $526.01 
B) $553.69 
C) $582.83 
D) $613.51 
E) $645.80

Question 13

Stocks X and Y have the following data.Assuming the stock market is efficient and the stocks are in equilibrium,which of the following statements is CORRECT? $$\begin{array} { l r r } 
& \mathrm { X } & \mathrm { Y } \
\text { Price } & \$ 30 & \$ 30 \
\text { Expected growth (constant) } & 6 \% & 4 \% \
\text { Required return } & 12 \% & 10 \%
\end{array}$$

Accepted Answer

A) Stock Y has a higher dividend yield than Stock X. 
B) One year from now, Stock X's price is expected to be higher than Stock Y's price. 
C) Stock X has the higher expected year-end dividend. 
D) Stock Y has a higher capital gains yield. 
E) Stock X has a higher dividend yield than Stock Y.

Question 14

Megan Ross holds the following portfolio: $$\begin{array} { c r r } 
\text { Stock } & \text { Investment } & \text { Beta } \
\hline \text { A } & \$ 150,000 & 1.40 \
\text { B } & 50,000 & 0.80 \
\text { C } & 100,000 & 1.00 \
\text { D } & 75,000 & 1.20 \
\text { Total } & \$ 375,000 &
\end{array}$$ What is the portfolio's beta?

Accepted Answer

A) 1.06 
B) 1.17 
C) 1.29 
D) 1.42 
E) 1.56

Question 15

At the end of 10 years,which of the following investments would have the highest future value? Assume that the effective annual rate for all investments is the same and is greater than zero.

Accepted Answer

A) Investment A pays $250 at the beginning of every year for the next 10 years (a total of 10 payments). 
B) Investment B pays $125 at the end of every 6-month period for the next 10 years (a total of 20 payments). 
C) Investment C pays $125 at the beginning of every 6-month period for the next 10 years (a total of 20 payments). 
D) Investment D pays $2,500 at the end of 10 years (just one payment). 
E) Investment E pays $250 at the end of every year for the next 10 years (a total of 10 payments).

Question 16

You plan to work for Strickland Corporation for 12 years after graduation and after that want to start your own business.You expect to save and deposit $7,500 a year for the first 6 years (t = 1 through t = 6)and $15,000 annually for the following 6 years (t = 7 through t = 12).The first deposit will be made a year from today.In addition,your grandmother just gave you a $25,000 graduation gift that you will deposit immediately (t = 0).If the account earns 9% compounded annually,how much will you have when you start your business 12 years from now?

Accepted Answer

A) $238,176 
B) $250,712 
C) $263,907 
D) $277,797 
E) $291,687

Question 17

Your older brother turned 35 today,and he is planning to save $7,000 per year for retirement,with the first deposit to be made one year from today.He will invest in a mutual fund that's expected to provide a return of 7.5% per year.He plans to retire 30 years from today,when he turns 65,and he expects to live for 25 years after retirement,to age 90.Under these assumptions,how much can he spend each year after he retires? His first withdrawal will be made at the end of his first retirement year.

Accepted Answer

A) $58,601 
B) $61,686 
C) $64,932 
D) $68,179 
E) $71,588

Question 18

Kellner Motor Co.'s stock has a required rate of return of 11.50%,and it sells for $25.00 per share.Kellner's dividend is expected to grow at a constant rate of 7.00%.What was the last dividend,D0?

Accepted Answer

A) $0.95 
B) $1.05 
C) $1.16 
D) $1.27 
E) $1.40

Question 19

Sawchuck Consulting has been profitable for the last 5 years,but it has never paid a dividend.Management has indicated that it plans to pay a $0.25 dividend 3 years from today,then to increase it at a relatively rapid rate for 2 years,and then to increase it at a constant rate of 8.00% thereafter.Management's forecast of the future dividend stream,along with the forecasted growth rates,is shown below.Assuming a required return of 11.00%,what is your estimate of the stock's current value?

Accepted Answer

A) $9.94 
B) $10.19 
C) $10.45 
D) $10.72 
E) $10.99

Question 20

You are hoping to buy a new boat 3 years from now,and you plan to save $4,200 per year,beginning one year from today.You will deposit your savings in an account that pays 5.2% interest.How much will you have just after you make the 3rd deposit,3 years from now?

Accepted Answer

A) $11,973 
B) $12,603 
C) $13,267 
D) $13,930 
E) $14,626

Exam 29: Basic Financial Tools: a Review

Which of the following statements is CORRECT?

If its yield to maturity declined by 1%,which of the following bonds would have the largest percentage increase in value?

Which of the following statements is CORRECT?

What is the PV of an ordinary annuity with 5 payments of $4,700 if the appropriate interest rate is 4.5%?

Which of the following statements is CORRECT?

The prices of high-coupon bonds tend to be less sensitive to a given change in interest rates than low-coupon bonds,other things held constant.

Which of the following statements is CORRECT?

Your business has just taken out a 1-year installment loan for $72,500 at a nominal rate of 11.0% but with equal end-of-month payments.What percentage of the 2nd monthly payment will go toward the repayment of principal?

Which of the following bonds has the greatest interest rate price risk?

At a rate of 6.5%,what is the future value of the following cash flow stream?

At the end of 10 years,which of the following investments would have the highest future value? Assume that the effective annual rate for all investments is the same and is greater than zero.

Kellner Motor Co.'s stock has a required rate of return of 11.50%,and it sells for $25.00 per share.Kellner's dividend is expected to grow at a constant rate of 7.00%.What was the last dividend,D₀?

You are hoping to buy a new boat 3 years from now,and you plan to save $4,200 per year,beginning one year from today.You will deposit your savings in an account that pays 5.2% interest.How much will you have just after you make the 3rd deposit,3 years from now?