A- MULTIPLE CHOICE – Answer any 60 of the following (60 points -1 point each)
1– An exchange traded fund that invests in the stocks of large corporations is an example of
A) direct investment.
B) indirect investment.
C) derivative investment.
D) tangible investment.
2- On a net basis, funds in the financial markets are generally supplied by
B) both individuals and business firms.
C) business firms.
D) the government.
3- Which of the following is an example of a tangible asset.
B) mutual funds
C) real estate
4. Sarah purchased a stock one year ago at a price of $32 a share. In the past year, she has received four quarterly dividends of $0.75 each. Today she sold the stock for $38 a share. Her capital gain per share is
5. Investment bankers who join together to share the financial risk associated with buying an entire issue of new securities and reselling them to the public is called a(n)
A) selling group.
B) tombstone group.
C) underwriting syndicate.
D) primary market group.
6. Which one of the following statements about the NYSE is correct?
A) Each member of the exchange owns a trading post.
B) Any listed stock may be traded at any of 20 trading posts.
C) Brokerage firms are only permitted to have one individual trading on the floor of the exchange.
D) Buy orders are filled at the lowest price and sell orders are filled at the highest price.
7. The price an individual investor will pay to purchase a stock in the OTC market is the
B) ask price.
C) bid price.
D) broker price.
8. Kayla invested $3,000 and purchased shares of a German corporation when the exchange rate was $1.00 = .70 euro. After six months, she sold all of the shares for 3,180 euros, when the exchange rate was $1.00 = .68 euro. No dividends were paid during the time Heidi owned the shares of stock. What is the amount of Kayla’s gain or loss on this investment?
A) $129.60 gain
B) $1676 gain
C) $1676 loss
D) $250 loss
9. The purchase of stock with cash in the hope of earning a capital gain is known as taking a
A) long position in the stock.
B) short position in the stock.
C) long, margined position in the stock.
D) short, margined position in the stock.
10. Megan bought 200 shares of stock at a price of $10 a share. She used her 70% margin account to make the purchase. Megan sold her stock after a year for $12 a share. Ignoring margin interest and trading costs, what is Megan’s return on investor’s equity for this investment?
11. Emily bought 200 shares of ABC Co. stock for $29.00 per share on 60% margin. Assume she holds the stock for one year and that her interest costs will be $80 over the holding period. Ignoring commissions, what is her percentage return (loss) on invested capital if the stock price went down 10%?
12. Which of the following types of information will NOT be found in major urban newspapers?
A) price quotations for stocks of local interest
B) stories concerning local business leaders
C) interest rates offered by local and national banks
D) real time price quotes for widely held stocks and exchange traded funds
13. Kelly bought a stock at a price of $22.50. She received a $1.75 dividend and sold the stock for $24.75. What is Kelly’s capital gain on this investment?
14. Inflation tends to have a favorable impact on
A) real estate.
B) common stock.
C) preferred stock.
15. When calculating the present value of either a future single sum or a future annuity, the applicable interest rate is usually called the
A) yield to maturity.
B) compound interest rate.
C) internal rate of return.
D) discount rate.
16. The closest approximation to the real, risk-free rate of interest is
A) The short-term Treasury bill rate plus the inflation rate.
B) The short-term Treasury bill rate minus the inflation rate.
C) The 10 year Treasury bond rate minus the inflation rate.
D) The 10 year Treasury bond rate minus the 1 year Treasury bill rate.
17. The markets in general are paying a 2% real rate of return. Inflation is expected to be 3%. ABC stock commands a 6% risk premium. What is the expected rate of return on ABC stock?
18. The required return on Beta stock is 14%. The risk-free rate of return is 4% and the real rate of return is 2%. How much are investors requiring as compensation for risk?
19. You find that the bid and ask prices for a stock are $10.25 and $10.30 respectively. If you purchase or sell the stock you must pay a flat commission of $25. If you buy 100 shares of the stock and immediately sell them, what is your total implied and actual transaction cost in dollars? A. $50 B. $25 C. $30 D. $55
20. Systematic risks
A) can be eliminated by investing in a variety of economic sectors.
B) are forces that affect all investment categories.
C) result from random firm-specific events.
D) are unique to certain types of investment.
21. When the stock market has bottomed out and is beginning to recover, the best portfolio to own is the one with a beta of
22. Which one of the following statements about common stock is true?
A) Common stock can provide attractive capital appreciation opportunities.
B) Dividends generally provide the greatest rate of return on common stocks.
C) Common stocks generally have a negative rate of return over a ten-year period.
D) The DJIA is the best indicator of the overall performance of common stocks.
23. Substituting EBITDA for EBIT when computing the times interest earned ratio will make the company appear
A) more leveraged.
B) less leveraged.
C) more profitable.
D) less efficient.
24. Nadine Enterprises has total assets of $240,000, a debt-equity ratio of 0.60, and a return on assets of 9%. What is the return on equity?
25. Which one of the following is a leverage measure?
A) times interest earned
B) net working capital
C) return on equity
D) net profit margin
26. Assume that you have recently purchased 100 shares in an investment company. Upon examining the balance sheet, you note the firm is reporting $225 million in assets, $30 million in liabilities, and 10 million shares outstanding. What is the Net Asset Value (NAV) of these shares? A. $25.50 B. $22.50 C. $19.50 D. $1.95
27. The offer price of an open-end fund is $18.00 and the fund is sold with a front-end load of 5%? What is the fund’s NAV? A. $18.74 B. $17.10 C. $15.40 D. $16.57
28. Whisper numbers are
A) officially published forecast numbers provided by company management.
B) the official released estimates prepared by financial analysts.
C) generally less accurate than the released estimates by analysts.
D) generally higher than the released analysts’ forecasts.
29. You invest in a mutual fund that charges a 3% front end load, 1% total annual fees, and a 0% back end load on Class A shares. The same fund charges 0% front end load, 1% total annual fees, and a 2% back end load on Class B shares. What are the total fees in year one on a Class A investment of $20,000 with no growth in value? A. 658 B. 794 C. 885 D. 902
30. You invest in a mutual fund that charges a 3% front end load, 1% total annual fees, and a 0% back end load on Class A shares. The same fund charges 0% front end load, 1% total annual fees, and a 2% back end load on Class B shares. What are the total fees in year one on a Class B investment of $20,000 if you redeem shares with no growth in value? A. 596 B. 794 C. 885 D. 902
31. You put up $50 at the beginning of the year for an investment. The value of the investment grows 4% and you earn a dividend of $3.50. Your HPR was ____. A. 4.00% B. 3.50% C. 7.00% D. 11.00%
32. The complete portfolio refers to the investment in _________. A. the risk-free asset B. the risky portfolio C. the risk-free asset and the risky portfolio combined D. the risky portfolio and the index
33. An investment earns 10% the first year, 15% the second year and loses 12% the third year. Your total compound return over the three years was ______. A. 41.68% B. 11.32% C. 3.64% D. 13.00%
34. Suppose you pay $9,700 for a $10,000 par Treasury bill maturing in three months. What is the holding period return for this investment? A. 3.01% B. 3.09% C. 12.42% D. 16.71%
35. The rate of return on _____ is known at the beginning of the holding period while the rate of return on ____ is not known until the end of the holding period. A. risky assets, Treasury bills B. Treasury bills, risky assets C. excess returns, risky assets D. index assets, bonds
36. Most studies indicate that investors’ risk aversion is in the range _____. A. 1-3 B. 2-4 C. 3-5 D. 4-6
37. A measure of the riskiness of an asset held in isolation is ____________. A. beta B. standard deviation C. covariance D. semi-variance
38. If enough investors decide to purchase stocks they are likely to drive up stock prices thereby causing _____________ and ___________. A. expected returns to fall; risk premiums to fall B. expected returns to rise; risk premiums to fall C. expected returns to rise; risk premiums to rise D. expected returns to fall; risk premiums to rise
39. Building a zero-investment portfolio will always involve _____________. A. an unknown mixture of short and long positions B. only short positions C. only long positions D. equal investments in a short and a long position
40. Liquidity is a risk factor that __________. A. has yet to be accurately measured and incorporated into portfolio management B. is unaffected by trading mechanisms on various stock exchanges C. has no effect on the market value of an asset D. affects bond prices but not stock prices
41. A stock’s alpha measures the stock’s ____________________. A. expected return B. abnormal return C. excess return D. residual return
42. The measure of risk used in the Capital Asset Pricing Model is ___________. A. specific risk B. the standard deviation of returns C. reinvestment risk D. beta
43. Random price movements indicate ________. A. irrational markets B. that prices cannot equal fundamental values C. that technical analysis to uncover trends can be quite useful D. that markets are functioning efficiently
44. Stock prices that are stable over time _______. A. indicate that prices are useful indicators of true economic value B. indicate that the market is not incorporating new information into current stock prices C. ensure that an economy allocates its resources efficiently D. indicates that returns follow a random walk process
45. If you believe in the __________ form of the EMH, you believe that stock prices reflect all relevant information including information that is available only to insiders. A. semi-strong B. strong C. weak D. perfect
46. __________ is the return on a stock beyond what would be predicted from market movements alone. A. A normal return B. A subliminal return C. An abnormal return D. An excess return
47. A market anomaly refers to _______. A. an exogenous shock to the market that is sharp but not persistent B. a price or volume event that is inconsistent with historical price or volume trends C. a trading or pricing structure that interferes with efficient buying and selling of securities D. price behavior that differs from the behavior predicted by the efficient market hypothesis
48. The semi-strong form of the efficient market hypothesis implies that ____________ generate abnormal returns and ____________ generate abnormal returns. A. Technical analysis cannot; fundamental analysis can B. Technical analysis can; fundamental analysis can C. Technical analysis can; fundamental analysis cannot D. Technical analysis cannot; fundamental analysis cannot
49. Insiders are able to profitably trade and earn abnormal returns prior to the announcement of positive news. This is a violation of which form of efficiency? A. Weak form efficiency B. Semi-strong form efficiency C. Strong form efficiency D. Technical analysis
50. In an efficient market and for an investor that believes in a passive approach to investing, what is the primary duty of a portfolio manager? A. Accounting for results B. Diversification C. Identifying undervalued stocks D. No need for a portfolio manager
51. The lack of adequate trading volume in stock that may ultimately lead to its ability to produce excess returns is referred to as the ____________________. A. January effect B. liquidity effect C. neglected firm effect D. P/E effect
52. The put/call ratio is a ______ indicator. A. sentiment B. flow of funds C. market structure D. fundamental
53. Consider two bonds, A and B. Both bonds presently are selling at their par value of $1,000. Each pay interest of $120 annually. Bond A will mature in 5 years while bond B will mature in 6 years. If the yields to maturity on the two bonds change from 12% to 14%, _________. A. both bonds will increase in value but bond A will increase more than bond B B. both bonds will increase in value but bond B will increase more than bond A C. both bonds will decrease in value but bond A will decrease more than bond B D. both bonds will decrease in value but bond B will decrease more than bond A
54. A high amount of short interest is typically considered as a __________ signal and contrarians may consider it as a _________ signal. A. bearish; bullish B. bullish; bearish C. bearish; false D. bullish; false
55. An investor holds a very conservative portfolio invested for retirement but she takes some extra cash she earned from her year-end bonus and buys gold futures. She appears to be engaging in ___________. A. overconfidence B. representativeness C. forecast errors D. mental accounting
56. If mutual fund portfolios are heavy in cash, market contrarians may interpret this as what kind of signal? A. Buy signal B. Sell signal C. Hold signal D. This is not interpreted as a signal
57. Bonds rated _____ or better by Standard and Poor’s are considered investment grade. A. AA B. BBB C. BB D. CCC
58. The __________ of a bond is computed as the ratio of coupon payments to market price. A. nominal yield B. current yield C. yield to maturity D. yield to call
59. Which of the following bonds would most likely sell at the lowest yield? A. A callable debenture B. A putable mortgage bond C. A callable mortgage bond D. A putable debenture
60. A 1% decline in yield will have the least effect on the price of the bond with a _________. A. 10-year maturity, selling at 80 B. 10-year maturity, selling at 100 C. 20-year maturity, selling at 80 D. 20-year maturity, selling at 100
61. Yields on municipal bonds are generally lower than yields on similar corporate bonds because of differences in _________. A. marketability B. risk C. taxation D. call protection
62. If interest rates are expected to rise, then Joe Hill should ____. A. prefer the Wildwood bond to the Asbury bond B. prefer the Asbury bond to the Wildwood bond C. be indifferent between the Wildwood bond and the Asbury bond D. there is not enough information given to tell
63. The price of a bond at the beginning of a period is $980.00 and $975.00 at the end of the period. What is the holding period return if the annual coupon rate is 4.5%? A. 4.08% B. 4.50% C. 5.10% D. 5.6%
64. All other things equal, which of the following has the longest duration? A. A 20 year bond with a 10% coupon yielding 10% B. A 20 year bond with a 10% coupon yielding 11% C. A 20 year zero coupon bond yielding 10% D. A 20 year zero coupon bond yielding 11%
65. As a result of bond convexity an increase in a bond’s price when yield to maturity falls is ________ the price decrease resulting from an increase in yield of equal magnitude. A. greater than B. equivalent to C. smaller than D. The answer is indeterminate.
66. The duration of a 5-year zero coupon bond is ____ years. A. 4.5 B. 5.0 C. 5.5 D. 3..
67. Pension fund managers can generally best bring about an effective reduction in their interest rate risk by holding ___________________. A. long maturity bonds B. long duration bonds C. short maturity bonds D. short duration bonds
68. The use of leverage is practiced in the futures markets due to the existence of _________. A. banks B. brokers C. clearinghouse D. margin
69. Perfect timing ability is equivalent to having __________ on the market portfolio. A. a call option B. a futures contract C. a put option D. a forward contract
70. Active portfolio managers try to construct a risky portfolio with _______. A. a higher Sharpe measure than a passive strategy B. a lower Sharpe measure than a passive strategy C. the same Sharpe measure as a passive strategy D. very few securities
B- TRUE/FALSE- Answer any 15 out of the following (15 points-1 point each)
1-In the financial markets, individuals are net demanders of funds.
2-Under current tax laws, most taxpayers will pay a lower tax rate on capital gains than on income from wages.
3-Capital markets deal exclusively in stock. Money markets deal exclusively in debt instruments.
4-Securities that trade in the over-the-counter market are called unlisted securities.
5- Diversification is the inclusion of a number of different investments in a portfolio with the goal of increasing returns or reducing risk.
6-On-line trading has greatly lowered greatly lowered the cost of buying and selling stock as well as greatly increasing the speed of transactions.
7-Descriptive information might include the company’s lines of business, a list of major competitors, and recent changes in management.
8- An investor who requires a 7% rate of return should be willing to pay $934.58 now to receive $1,000 at the end of one year.
9- Sydney invested $10,000 for an indefinite period at 5% per year. At the end of each year, she receives a a $500 check for interest earned. This type of account pays simple interest.
10-$10,000 invested in the NASDAQ Composite at the beginning of 1995 would have increased in value to over $50,000 by the end of 1999.
11– High dividend payout ratios are more of a concern to analysts than low payout ratios.
12-The dividend valuation model (DVM) is very sensitive to the growth rate (g) being used, because it affects both the model’s numerator and its denominator.
13– Advocates of the weak-form efficient market hypothesis claim that past price movements are the best predictors of future price movements.
14- For technical analysts, the forces of supply and demand have an important effect on the prices of securities.
15- Bonds are typically a good investment choice for an individual who is seeking long-term preservation of capital.
16-The risk premium component of a bond’s market interest rate is related to the characteristics of the particular bond and its issuer.
17– According to the expectations hypothesis, if investors anticipate higher rates of inflation in the future, the yield curve will be down sloping.
18- If a bond’s yield to maturity is lower than its coupon rate, the bond will sell at a discount.
19- When developing an asset allocation scheme, it is best to weight each type of asset equally.
20– Investors need to monitor economic and market activity to assess the potential impact these factors can have on their investment portfolios.
C- QUESTIONS/ANSWERS- Answer any 5 of the following ( 25 points- 5 points each)
1) Discuss the relationship between stock prices and investors’ beliefs about the business cycle.
2) What is the advantage of charting the price of a security over a period of time?
3) Zachary has purchased an investment that he expects to produce income of $3,000 at the end of the first year and $4,000 at the end of the second year. If he requires an 8% rate of return compounded annually, what is the maximum amount that he can pay and still earn the required rate of return?
4) Over the past 4 years, the annual rates of return on stock of Brown & Warren Inc. have been -2%, 4%, 14% and 6%, respectively, over the past four years. Compute the standard deviation of these returns.
5) Dr. Zweibel’s portfolio consists of four stocks: AZMN, 35%, beta 2.4; MKR, 20%, beta 1.6; ABDE, 25%, beta 1.8; and SBUK, 20%, beta 2.1. Compute Dr. Z’s portfolio beta. Does he seem to be a conservative or aggressive investor?
6) Why do some companies split their stock?
7) ROE = (net profit margin)(total asset turnover)(equity multiplier). What is the advantage of using this expanded version of the ROE formula versus using the simplified version which is net income divided by total equity?
8) The common stock of Peachtree Paper, Inc., is currently selling for $40 a share. A dividend of $2.00 per share was just paid. You are estimating that this dividend will grow at a constant rate of 10%.
(a) Using the constant growth DVM model, what is your required rate of return if $40 is a reasonable trading price? (Show all work.)
(b) If Peachtree Papers is a new company that produces a relatively unknown product, is the constant growth model a good valuation method for a potential investor to use? Justify your answer.
9) Explain the concept of bond immunization and the benefits derived from using this technique.
10) Explain why closed-end funds can sell at prices other than the fund’s NAV.