Question 1

Which of the following makes) insurance premiums higher than otherwise?

Accepted Answer

A)  adverse selection and moral hazard 
B)  adverse selection, but not moral hazard 
C)  moral hazard, but not adverse selection 
D)  neither adverse selection nor moral hazard

Question 2

Angela reads financial advice columns and concludes the following. Which, if any, of her conclusions are incorrect?

Accepted Answer

A)  Higher average returns come at the price of higher risk. 
B)  People who are risk averse should never hold stock. 
C)  Diversification cannot eliminate all of the risk in stock portfolio. 
D)  None of her conclusions are incorrect.

Question 3

Your boss asks you to do fundamental analysis of a corporation. What value is she asking for and how would you estimate this value?

Accepted Answer

The answer of Your boss asks you to do fundamental...

Question 4

Which, if any, of the present values below are correctly computed?

Accepted Answer

A)  A payment of $1,000 to be received one year from today, with a 8 percent interest rate, has a present value of $945.45. 
B)  A payment of $1,000 to be received one year from today, with a 9 percent interest rate, has a present value of $911.11. 
C)  A payment of $1,000 to be received one year from today, with a 10 percent interest rate, has a present value of $905.06. 
D)  None of the above are correct to the nearest cent.

Question 5

A company that can build a project that will cost $50,000, but returns $52,000 in one year would make a good decision by turning this project down if the interest rate were 3 percent.

Accepted Answer

A) True 
 B)False

Question 6

Figure 27-6. On the graph, x represents risk and y represents return. 
-Refer to Figure 27-6. Point A represents a situation in which

Accepted Answer

A)  all of a person's savings are allocated to a class of safe assets. 
B)  the person knows with certainty that his or her return will be 3 percent. 
C)  the standard deviation of the person's portfolio is zero. 
D)  All of the above are correct.

Question 7

Which of the following actions best illustrates adverse selection?

Accepted Answer

A)  A person purposely chooses bonds of corporations with high default risk because of the high returns. 
B)  A person dislikes losing $400 more than he likes winning $400. 
C)  After obtaining automobile insurance a person drives less carefully than before. 
D)  A person intending to take up dangerous hobbies applies for life insurance.

Question 8

In which of the following instances is the present value of the future payment the largest?

Accepted Answer

A)  You will receive $1,000 in 5 years and the annual interest rate is 5 percent. 
B)  You will receive $1,000 in 10 years and the annual interest rate is 3 percent. 
C)  You will receive $2,000 in 10 years and the annual interest rate is 10 percent. 
D)  You will receive $2,400 in 15 years and the annual interest rate is 8 percent.

Question 9

Which of the following is correct?

Accepted Answer

A)  Managed funds typically have a higher return than indexed funds. This tends to refute the efficient market hypothesis. 
B)  Managed funds typically have a higher return than indexed funds. This tends to support the efficient market hypothesis. 
C)  Index funds typically have a higher rate of return than managed funds. This tends to refute the efficient market hypothesis. 
D)  Index funds typically have a higher rate of return than managed funds. This tends to support the efficient market hypothesis.

Question 10

Suppose the interest rate is 4 percent. Which of the following has the greatest present value?

Accepted Answer

A)  $100 today plus $190 one year from today 
B)  $150 today plus $140 one year from today 
C)  $200 today plus $90 one year from today 
D)  $250 today plus $40 one year from today

Question 11

Halvorson Construction has an investment project that would cost $150,000 today and yield a one-time payoff of $167,000 in three years. What is the highest interest rate at which Halvorson would find this project profitable?

Accepted Answer

A)  7% 
B)  6% 
C)  5% 
D)  It is not profitable at any of these interest rates.

Question 12

Amanda talks with several different brokers at a social gathering. She hears the following advice from brokers A, B, and C. Which broker, if any, gave her incorrect advice?
a. Broker

Accepted Answer

The answer of Amanda talks with several different brokers at...

Question 13

By holding insurance a person

Accepted Answer

A)  reduces the risk of a bad outcome, such as their house burning down. 
B)  shares risk and so reduces the burden of risk. 
C)  Both A and B are correct. 
D)  Neither A nor B are correct.

Question 14

Some people argue that there are two advantages to holding mutual funds. The first is that mutual funds provide an inexpensive way to hold a diversified portfolio. The second is that because of their expertise mutual fund managers should be able to consistently beat the market. Which of the following does the evidence show?

Accepted Answer

A)  Diversification does reduce risk and mutual funds typically outperform the market. 
B)  Diversification does reduce risk, but mutual funds do not typically outperform the market. 
C)  Diversification does not reduce risk but mutual funds typically outperform the market. 
D)  Diversification does not reduce risk and mutual funds do not typically outperform the market.

Question 15

In the 1990s, Fed Chair Alan Greenspan believed that the market was

Accepted Answer

A)  undervalued, and evidence later showed that this was clearly correct. 
B)  undervalued, but whether it was remains debatable. 
C)  overvalued, and evidence later showed that this was clearly correct. 
D)  overvalued, but whether it was remains debatable.

Question 16

According to fundamental analysis, a saver should prefer to buy stocks that are

Accepted Answer

A)  undervalued. This means the price of the stock is low given the value of the corporation. 
B)  undervalued. This means the value of the corporation is low given the price of stock. 
C)  overvalued. This means the price of the stock is high given the value of the corporation. 
D)  overvalued. This means the value of the corporation is high given the price of stock.

Question 17

Scenario 27-2
Suppose Dave has a utility function  where W is his wealth in millions of dollars and U is the utility he obtains.
-Refer to Scenario 27-2. Suppose Dave is faced with a choice between two options. With option A Dave receives a guaranteed $2 million. With option B Dave faces a lottery that pays $10 million with probability P and pays $0 with probability 1-P). Given Dave's utility function, how high does P need to be before he will prefer option B over option A?

Accepted Answer

The answer of Scenario 27-2
Suppose Dave has a utility function...

Question 18

What is the present value of a payment of $1,000 two years from now if the interest rate is 6%?

Accepted Answer

A)  $2,000/1.06 
B)  $1000/1.06)2 
C)  $1000/1 + 0.062) 
D)  None of the above are correct.

Question 19

If your research leads you to believe that the present value of a stock's dividend stream and future price is less than its price then you believe the stock is

Accepted Answer

A)  overvalued so you should consider buying it. 
B)  overvalued so you should not consider buying it. 
C)  undervalued so you should consider buying it. 
D)  undervalued so you should not consider buying it.

Question 20

Define the efficient markets hypothesis.

Accepted Answer

The answer of Define the efficient markets hypothesis....

Exam 14: The Basic Tools of Finance