PRACTICE QUESTIONS Background Chapters 1-5
PRACTICE QUESTIONS Covers>> Background from Chapters 1-5
1. A Chartered Financial Analyst designation is
a. A professional designation awarded by AIMR to candidates passing three levels of examinations involving important investments topics
b. certification of a successful investing record used by professionals to advertise
c. a professional designation awarded by employers to employees meeting recognized standards of competency and conduct
d. a professional designation awarded by colleges upon successful completion of the proper exams
2. The best definition of debt securities, based on the text, is that the term includes
a. All bonds and preferred stocks
b. Treasuries, agencies, municipals, and corporates
c. Treasuries, agencies and corporates
d. Corporate bonds and Treasury bonds only
3. An investor buys 100 shares of a stock at $200 per share on 40% margin. The stock goes to $230. Ignoring all costs of transacting, the percentage return on investment is
a. 16.66%
b. 25%
c. 10%
d. none of the above
4. With regard to markets, choose the INCORRECT statement:
a. Secondary markets exist for the trading of existing securities
b. Investment bankers often underwrite new issues by purchasing the securities
c. If the issuer is selling securities for the first time, these are referred to as IPOs
d. All secondary equity markets are auction markets
5. With regard to securitization, choose the INCORRECT statement.
a. It refers to the transformation of illiquid loans into less risky securities.
b. The less risky securities resulting from securitization are referred to as asset-backed securities.
c. Securitization works best when packaged loans are heterogeneous, so that returns are more variable.
d. Ginnie Mae issues are one example of securitization
6. The common stockholder
a. is guaranteed a specified dividend return
b. is senior to (that is, ranks above) debt holders in terms of payment
c. takes relatively small risk in any given year
d. can best be described as the residual claimant
7. Which of the following is CORRECT regarding specialists?
a. They are critical on an auction market such as Nasdaq.
b. They act as brokers but not as dealers.
c. They are not expected to maintain a fair and orderly market if they have to risk their own capital.
d. They often “go against the market” to maintain an orderly market.
8. Which of the following statements about short selling is CORRECT
a. Short sales have a specified time limit.
b. Dividends on stock sold short must be paid by the short seller.
c. Short sales on the NYSE are permitted on upticks or downticks.
d. Buying calls is a substitute for selling short.
9. A TEY for an investor in the 39.6% marginal tax bracket holding a 5.5% municipal bond is
a. 10.76%
b. 15.15%
c. 9.11%
d. none of the above
10. You are trying to put together a list of 4 different corporate bonds, all with the same maturity, with their current rates. One bond is rated AAA, one is rated AA, one is rated A, and one is rated BBB. Which of the following rates would be associated with the A-rated bonds?
a. 6%
b. 6.5%
c. 7.9%
d. 7.1%
11. With regard to the Janus Twenty mutual fund , we can conclude
a. its expense ratio is about average, given the expense ratio for all equity mutual funds
b. subsequent performance is not always predictable on the basis of recent performance
c. it can be classified as a diversified equity fund
d. over a period of years, its returns should show less variability than those of Fidelity's Equity-Income fund
12. Money market funds
a. Have a sales (load) charge but not a redemption charge.
b. Are closed-end investment companies.
c. By law can hold only taxable securities.
d. Charge their investors a management fee
13. You sell short 100 shares of stock at $150 per share. If the stock moves to $170, you have
a. a loss of $2000
b. a gain of $3000
c. a loss of $3000
d. none of the above
14. The DJIA
a. has a divisor of 30
b. is a price-weighted index
c. has a base number set to 10
d. is biased toward low-priced stocks
15. With regard to the S&P 500 Index, choose the CORRECT statement.
a. It is less frequently used than the DJIA by institutional investors
b. A current value of 10000 for this index would indicate that the average price of the 500 stocks in the index is 100 times the base number
c. It is a market capitalization-weighted index of 500 large stocks
d. Stock splits and dividends are not automatically accounted for in its calculation
16. ECNs
a. have extended evening trading hours for many investors so that they can now trade after hours
b. have links to all discount brokers now doing business
c. pose no real threat to either the NYSE or to Nasdaq
d. are not likely to have much of an impact on financial markets because the NYSE and Nasdaq have entrenched positions
17. In describing the tradeoff that investors face, which of the following statements is INCORRECT?
a. on an expected basis for the next year, the tradeoff can be only upward sloping
b. over long periods of financial market history, such as 50 or more years, the tradeoff is upward sloping
c. over recent historical periods of one or two years, the tradeoff can be upward sloping or downward sloping
d. on an expected basis for the next 10 or 15 years, the tradeoff could be either upward sloping or downward sloping
18. Intelligent investment decisions for any future period are based on
a. the relation between realized return and risk
b. the relation between expected return and risk
c. expected return only
d. a tradeoff between return and risk that is downward sloping
19. Which statement concerning the current status of the markets is INCORRECT?
a. The Dow Jones Industrial Index has reached new highs but has not reached a level of 10,000
b. The S&P 500 Index is currently more than 1000
c. The American Stock Exchange accounts for roughly 4% of total volume traded among all markets
d. Dow Jones points are not equal to dollars
20. Which of the following statement is CORRECT about closed-end investment companies?
a. they can be referred to as mutual funds
b. the NAV is typically less than or greater than the market price
c. investors buy and redeem shares through the company
d. there are more closed-end companies than open-end companies
21. Given the expected return--risk tradeoff that exists for investment decisions, which of the following financial assets would be expected to be highest on the tradeoff?
a. AAA corporate bonds
b. small Nasdaq stocks
c. blue-chip common stocks
d. preferred stock
22. Which of the following is not a money-market security?
a. a Treasury bill
b. money market deposit account
c. a banker's acceptance
d. commercial paper
23. Which of the following is not a corporate-created equity-derivative security?
a. puts and calls
b. rights
c. convertible bonds
d. warrants
24. Which of the following statements about short sales is CORRECT?
a. short sales have a specified time limit
b. short sales on the NYSE are permitted only on an uptick
c. short sellers need only a cash account to sell short
d. the short seller incurs no costs other than brokerage costs on the typical dividend-paying NYSE stock
25. All open-end investment companies
a. charge a load fee + an expense ratio
b. charge an expense ratio, a load fee, and a redemption fee
c. have shares that are valued at the NAV but are priced on the basis of whatever investors are willing to pay for them
d. Charge an expense ratio, and may or may not charge a load fee, a maintenance fee, and a redemption fee
26. Fidelity’s Equity-Income Fund is
a. an example of a mutual fund classified as an aggressive growth fund.
b. a closed-end fund.
c. an open-end investment company.
d. an index fund.
27. The Russell 2000 is a
a. price-weighted market index used to measure small cap stocks
b. value-weighted market index used to measure large and small cap stocks
c. value-weighted index used to measure small cap stocks
d. price-weighted index used to measure mid-cap stocks
28. With regard to types of orders, select the CORRECT statement
a. a market order ensures that a transaction will be carried out
b. stop orders specify a certain price that the investor is assured of receiving
c. limit orders are the most common type of order on the NYSE
d. a market order removes all doubt about the price to be received in a transaction
29. The state of New York issues a 30-year bond with a tax-exempt yield of 3.8% while 30year Treasury bonds are yielding 5.8%. For an investor in the 36% tax bracket, the TEY (defined in Chapter 2) for this bond is
a. is less than the comparable Treasury bond yield.
b. is greater than the comparable Treasury bond yield.
c. would be less attractive if the tax rate were higher.
d. such that an investor would be indifferent between these two alternatives.
30. If the initial margin requirement is 40 percent, and a stock sells for $40, an investor with $2000 of his own who wants to use the full $2000 in a margin transaction
a. can purchase 125 shares.
b. can purchase a maximum of 100 shares by borrowing $2000 from the broker.
c. can purchase 80 shares.
d. can purchase 200 shares by borrowing $3000 from the broker.
31. With regard to the size of equity markets, which statement is INCORRECT?
a. Nasdaq has more companies listed on it than does the NYSE
b. The Amex has only approximately 800 stocks listed
c. The NYSE has more than 5000 stocks listed
d. The total market value of all NYSE stocks exceeds the total market value of all Nasdaq stocks
32. The average expense ratio for equity mutual funds has been about:
a. 1.79%
b. 1.41%
c. 0.69%
d. 1.19%
33. Which of the following statements is CORRECT concerning direct and indirect investing?
a. over the last 5 years, individual investors have been net sellers of stocks
b. over the last 5 years, individual investors have decreased their indirect investing in equity funds
c. mutual fund assets have not increased in the last few years as investors have turned more to direct investing in equities
d. most investors should choose to do either direct investing or indirect investing, but not both
34. With regard to direct and indirect investing, choose the INCORRECT statement.
a. Direct investing refers to the purchase of securities directly in one’s brokerage account
b. Indirect investing refers to the purchase of investment companies, thereby letting the intermediary do the investing on behalf of the investment company owners
c. Direct investing must be done by every investor since it is not possible to invest only indirectly
d. Many investors do both direct and indirect investing
35. NASDAQ National Market System is
a. a self-regulating body of brokers and dealers that oversees OTC practices.
b. a combination of specialists in the auction markets and market makers in OTC stocks, combined with the up-to-the-minute reporting of trades.
c. a combination of specialists in OTC stocks and the up-to-minute reporting of trades.
d. a combination of the competing market makers in OTC stocks and a reporting of trades similar to that which occurs on the NYSE.
36. Which statement is CORRECT with regard to closed-end investment companies?
a. they are generally unmanaged, passive investments
b. they are the most popular form of investment company for the typical investor
c. if their NAV is greater than the current market price, they are said to be selling for a premium
d. their capitalizations are fixed unless a new public offering of stock is made
37. Ex ante, the return-risk tradeoff available to investors
a. can only be a flat line in return-risk space.
b. can only be upward sloping in return-risk space.
c. can only be downward sloping in return-risk space.
d. could be downward sloping in return-risk space.
38. With regard to market indexes, choose the INCORRECT statement
a. The Dow Jones World Stock Index is a price-weighted index
b. The Dow Jones Equity Market Index is capitalization-weighted
c. The Russell indexes are capitalization-weighted
d. The S&P indexes are capitalization-weighted
39. If the initial margin requirement is 55% and the maintenance margin requirement is 30%, what is the most that could be borrowed in order to buy the stock by an investor who wishes to purchase 100 shares of the stock which has a current price of $15.75?
a. $708.75
b. $837.50
c. $866.25
d. $753.75
40. With regard to mutual funds, choose the INCORRECT statement
a. money market funds are a form of mutual funds
b. all mutual funds typically charge a management fee
c. the NAV of a mutual fund is calculated at least once daily
d. some mutual funds trade on exchanges
41. On August 20, 1999, the Dow Jones Industrial Average declined about 150 points. The divisor for this index was .205 at this time. GM declined $15.375 to $115.75. Based on this information, choose the CORRECT statement.
a. Investors holding a diversified portfolio of stocks lost about $150 that day.
b. GM accounted for about 15.375/150 of the decline.
c. Percentage wise, the loss on the Dow was larger than the loss on GM that day
d. GM alone accounted for about one-half of the decline in the Dow for that day
42. A futures contract
a. is always exercised by the buyer.
b. is mainly used for hedging purposes.
c. is mainly used for speculative purposes.
d. requires an initial margin of 20% or more to be paid.
43. A call is
a. a short-term option to buy at a specified price within a specified time
b. a short-term option to sell at a specified price within a specified time
c. a long-term option to buy issued by a corporation
d. a long-term option to buy stock issued by other investors
Assume that Intel is trading around $92. The bid price is 91 7/8, and the asked price is $92. You own some Intel shares and are considering various trades of Intel at this time.
Use this information to answer the next two questions:
44. Assume you are unwilling to pay more than 91 1/2 for Intel but would like to buy some more at that price. In order to attempt to purchase at this price you should place
a. a market order because it assures you of buying at this price
b. a market order when the stock trades at 91 1/2 because that will assure you of getting Intel at that price when your order goes in and is executed
c. a stop order at 91 1/2
d. a limit order to buy at 91 1/2
45. You instruct your broker to sell your existing shares at a price that will assure you of at least 93. This is
a. a market order
b. a limit order to sell
c. a stop order to buy
d. a stop order to sell
46. With regard to margin:
a. The NYSE establishes the initial margin
b. The maintenance margin is set by the Board of Governors of the Federal Reserve System
c. The initial margin is set by the Federal Reserve and the maintenance margin is set by brokers and the exchanges
d. The maintenance margin requirement has been 50% for many years
47. Which of the following statements is INCORRECT concerning the S&P 500 Index?
a. It accounts for approximately 70% of the total value of the U. S. equity market
b. The base is 1941-43 = 10
c. More than half of the total market value of the index is accounted for by only 10 stocks
d. All stock dividends and splits are automatically accounted for
48. The DJIA includes how many stocks?
a. 10
b. 30
c. 50
d. 70
49. With regard to markets, choose the CORRECT statement:
a. Secondary markets exist for the trading of new and existing securities
b. Investment bankers are prohibited from joining together to sell an issue of securities
c. If the issuer is selling securities for the first time, these are referred to as seasoned offers
d. All secondary equity markets are either auction markets or negotiated markets
50. Which security is typically riskiest to investors?
a. corporate bond
b. common stock
c. long-term warrant
d. call option
PRACTICE QUESTIONS Covers>> Background Chapters 1-5 SET 2
1. Given the expected return--risk tradeoff that exists for investment decisions, which of the following financial assets would be expected to be lowest on the tradeoff?
a. AAA corporate bonds
b. Treasury bonds
c. blue-chip common stocks
d. preferred stock
2. Risk is best thought of as
a. the chance that the actual return will be zero or negative
b. the chance that the actual return will differ from the expected return
c. the chance that the expected return will be lower than what investors demand
d. the chance that the expected return will be incorrectly estimated
3. An example of a nonmarketable security is
a. a Treasury bill
b. a government savings bond
c. a banker's acceptance
d. commercial paper
4. Which of the following is a corporate-created equity-derivative security?
a. puts and calls
b. futures contracts
c. commercial paper
d. warrants
5. Which of the following statements about common stock is CORRECT?
a. it has a specified return in the form of dividends that must be paid annually
b. stockholders have specific promises to receive cash from the corporation because of the dividends
c. common stock has no specified return that must be paid
d. common stockholders are paid ahead of the preferred stockholders.
6. If the initial margin requirement is 40%, and the maintenance margin is 30%, an investor purchasing 200 shares of a stock selling at $100 must put up, to buy the stock
a. $12,000
b. $ 8,000
c. $10,000
d. none of the above
7. Which of the following statements is INCORRECT?
a. The New York Stock Exchange is an auction market
b. Nasdaq is an example of an agency auction market
c. Specialists act as both brokers and dealers
d. Nasdaq is a negotiated market while the NYSE is an auction market.
8. With regard to Vanguard’s Tax Exempt Bond Funds discussed in class, choose the INCORRECT statement.
a. The long-term bond fund over a period of years should return more than the short-term bond fund
b. The money market fund’s Total Return is comprised of the capital return and the income return
c. The long-term portfolio should show capital returns that have a wider variance than the capital returns for the short-term portfolio
d. The short-term portfolio over a period of years shows both positive and negative capital returns
9. You sell short 150 shares of stock at $150 per share. If the stock price moves to $130, you have
a. a loss of $2000
b. a gain of $3000
c. a loss of $3000
d. none of the above
10. Which of the following statements about short sales is CORRECT?
a. short sales have a specified time limit
b. short sales on the NYSE are permitted only on an uptick
c. short sellers need only a cash account to sell short
d. the short seller incurs no costs other than brokerage costs on the typical dividend-paying NYSE stock
11. A taxable equivalent yield for an investor in the 39.6% marginal tax bracket holding a municipal bond paying 6.6% is
a. 16.66%
b. 15.15%
c. 6%
d. none of the above
12. You buy 100 shares of Polyglot on 55% margin at $35 per share. The broker charges an annual 10% interest rate on margin loans, and commissions are 3% of the total stock value on both the purchase and the sale. At year end you receive a $0.90 per share dividend and sell the stock for 32 5/8. What is your rate of return on this investment?
a. –35.02%
b. –25.02%
c. 14.74%
d. –19.85%
e. –11.18%
13. The Securities Act of 1933
a. ensures full disclosure of information with respect to new security issues
b. requires the issuer of a new security to obtain the approval of the SEC
c. ensures the fair trading of securities on the secondary market
d. provides some assurance to investors as to the quality of the new issue
14. Which of the following characteristics applies to the Treasury bill?
a. sold at face value on a regular basis
b. pays interest every six months
c. has a face value of $1,000,000
d. sold at a discount on an auction basis weekly
15. Money market funds
a. Have a sales (load) charge but not a redemption charge.
c. Are closed-end investment companies.
c. By law can hold only taxable securities.
d. Charge their investors a management fee
16. One of the big advantages of Instinet for institutional investors is
a. the help of brokers who act to bring two institutions together
b. low commissions of about 6 or 7 cents a share
c. being identified as the party buying or selling, which helps the institution to make favorable trades
d. a combination of low costs and anonymous trading
17. The DJIA
a. has a divisor less than 0.3
b. is a capitalization-weighted index
c. has a base number set to 10
d. is biased toward low-priced stocks
18. With regard to the S&P 500 Index, choose the CORRECT statement.
a. It is more frequently used than the DJIA by institutional investors
b. A current value of 1000 for this index would indicate that the average price of the 500 stocks in the index is $1000
c. It is a price-weighted index of 500 large stocks
d. Stock splits and dividends are not automatically accounted for in its calculation
19. Which of the following sources of risk would be considered nonsystematic risk?
a. market risk
b. business risk
c. interest rate risk
d. inflation risk
20. The NASD is
a. a major government agency regulating the over-the-counter market
b. a branch of the SEC that licenses brokers
c. a self-regulating body that oversees the daily operations of the NYSE and Nasdaq
d. a self-regulating body that oversees brokers and the Nasdaq market
21. A Chartered Financial Analyst designation is
a. a professional designation awarded by AIMR to candidates passing three levels of examinations involving important investments topics.
b. a certification of a successful investing record used by professionals to attract business.
c. a professional designation awarded by employers to employees meeting recognized standards of competency and conduct.
d. a professional designation awarded by colleges upon successful completion of the proper exams.
22. Fidelity’s Equity-Income Fund is
a. an example of a mutual fund classified as an aggressive growth fund.
e. a closed-end fund.
f. an open-end investment company.
g. an index fund.
23. The Russell 2000 is a
a. price-weighted market index used to measure small cap stocks
b. value-weighted market index used to measure large and small cap stocks
c. value-weighted index used to measure small cap stocks
d. price-weighted index used to measure mid-cap stocks
24. With regard to types of orders, select the CORRECT statement
a. a market order ensures that a transaction will be carried out
b. stop orders specify a certain price that the investor is assured of receiving
c. limit orders are the most common type of order on the NYSE
d. a market order removes all doubt about the price to be received in a transaction
25. The Dow-Jones Industrial Average
a. is an index-number concept
b. is a price-weighted series
c. is a broad-based measure of the stock market as a whole
d. is a market value weighted series
26. A warrant is
a. a very short-term option on the underlying stock
b. created by investors as a play on a common stock
c. a long-term option on its underlying common, issued by firms
d. the right to sell shares of stock at a stated price within a stated time
27. All open-end investment companies
a. charge a load fee
b. charge a management fee and a load fee
c. have shares that are valued at the NAV but are priced on the basis of whatever investors are willing to pay for them
d. redeem their shares on demand
28. Which of the following is INCORRECT regarding specialists?
a. They go with the market to maintain an orderly market
b. They act as both brokers and dealers
c. They can act as dealers
d. They are allowed to sell short
29. An investor buys 100 shares of a stock at $200 per share on 60% margin. The stock goes to $220. Ignoring all costs of transacting, the percentage return on investment is
a. 16.66%
b. 25%
c. 10%
d. none of the above
30. If the initial margin requirement is 40 percent, and a stock sells for $40, an investor with $2000 of his own who wants to use the full $2000 in a margin transaction
a. can purchase 125 shares.
b. can purchase a maximum of 100 shares by borrowing $2000 from the broker.
c. can purchase 80 shares.
d. can purchase 200 shares by borrowing $3000 from the broker.
31. With regard to the size of equity markets, which statement is INCORRECT?
a.Nasdaq has more companies listed on it than does the NYSE
b.The Amex has only approximately 800 stocks listed
c.The NYSE has more than 5000 stocks listed
d.The total market value of all NYSE stocks exceeds the total market value of all Nasdaq stocks
32. Choose the INCORRECT statement with regard to Federal Agency Securities:
a. they are not exempt from federal tax
b. they typically trade less frequently than comparable Treasury bonds
c. they have slightly less default risk than Treasuries because both the government and the agency guarantees them
d. they typically have higher yields than Treasury securities of comparable maturity
33. With regard to securitization, choose the INCORRECT statement.
a. It refers to the transformation of illiquid loans into less risky securities.
b. The less risky securities resulting from securitization are referred to asset-backed securities.
c. Securitization works best when packaged loans are heterogeneous, so that returns are more variable.
d. Ginnie Mae issues are one example of securitization
34. With regard to direct and indirect investing, choose the INCORRECT statement.
a. Direct investing refers to the purchase of securities directly in one’s brokerage account
b. Indirect investing refers to the purchase of investment companies, thereby letting the intermediary do the investing on behalf of the investment company owners
c. Direct investing must be done by every investor since it is not possible to invest only indirectly
d. Many investors choose to do both direct and indirect investing
35. The common stockholder
a. is a creditor of the company
b. as the owner, takes relatively little risk
c. is senior to the bondholders in terms of payment
d. takes greater risk than the other claimants of the company in the hope of greater returns
36. NASDAQ National Market System is
a. a self-regulating body of brokers and dealers that oversees OTC practices.
b. a combination of specialists in the auction markets and market makers in OTC stocks, combined with the up-to-the-minute reporting of trades.
c. a combination of specialists in OTC stocks and the up-to-minute reporting of trades.
d. a combination of the competing market makers in OTC stocks and a reporting of trades similar to that which occurs on the NYSE.
37. When it comes to trading bonds
a. most bonds are traded on exchanges although some are traded over the counter
b. most bonds are traded over the counter although a few are traded on exchanges
c. the secondary market for agency securities will be quite poor relative to corporates and municipals
d. no federal government bonds are traded over the counter
38. With regard to a national market system (NMS)
a. The Act of 1975 provided a detailed blueprint of its final form
b. We have reached the final form of a NMS, and little change is expected
c. We are evolving towards some type of NMS, but we do not know what the final form will look like
d. The Intermarket Trading System will be the major component of a NMS in the future
39. Ex post, the return-risk tradeoff available to investors
a. can only be a flat line in return-risk space.
b. can only be upward sloping in return-risk space.
c. can only be downward sloping in return-risk space.
d. could be downward sloping in return-risk space.
40. If the initial margin requirement is 45% and the maintenance margin requirement is 30%, what is the most that could be borrowed in order to buy the stock by an investor who wishes to purchase 100 shares of the stock which has a current price of $16.75?
a. $117.25
b. $837.50
c. $921.25
d. $753.75
41. Nasdaq is best described as
a. an agency auction market
b. a primary market for smaller securities
c. a negotiated market consisting of a network of dealers
d. an organized exchange with a physical location
42. Which of the following is INCORRECT about risk-averse investors?
a. They always try to minimize their risk regardless of return.
b. They will not seek risk for its own sake.
c. They can buy very risky securities.
d. They seek to earn a rate of return that is proportional to the risk taken.
43. With regard to bond ratings, which of the following statements is INCORRECT?
a. The first four categories represent investment grade securities.
b. Ratings reflect the absolute probability of default.
c. Both corporates and municipals are rated.
d. Ratings are current opinions on the relative quality of bonds.
44. Which of the following statements concerning the current status of the markets is INCORRECT?
a. The Dow Jones Industrial Index has reached new highs but has not reached a level of 10,000
b. The S&P 500 Index is currently around 600
c. The American Stock Exchange accounts for roughly 4% of total volume traded among all markets
d. Dow Jones points are not equal to dollars
45. Which of the following statement is CORRECT about closed-end investment companies?
a. they can be referred to as mutual funds
b. the NAV is typically less than or greater than the market price
c. investors buy shares from the company and redeem them back to the company
d. there are more closed-end companies than open-end companies
46. With regard to mutual funds, choose the INCORRECT statement
a. money market funds are a form of mutual funds
b. all mutual funds typically charge a management fee
c. the NAV of a mutual fund is calculated at least once daily
d. some mutual funds trade on exchanges
47. With regard to market indexes, choose the INCORRECT statement
a. The Dow Jones World Stock Index is a price-weighted index
b. The Dow Jones Equity Market Index is capitalization-weighted
c. The Russell indexes are capitalization-weighted
d. The S&P indexes are capitalization-weighted
48. On January 22, 1999, the Dow Jones Industrial Average declined 143.41 points. The divisor for this index was .24275. IBM declined $17.313 to $179.75. Based on this information, choose the CORRECT statement.
a. Investors holding a diversified portfolio of stocks lost about $143 that day.
b. IBM accounted for about 17/143 of the decline.
c. Percentage wise, the loss on the Dow was larger than the loss on IBM that day
d. IBM alone accounted for about one-half of the decline in the Dow for that day
49. The NYSE is best described as
a. an agency auction market
b. the premier primary market in the world
c. a negotiated market where blue chip stocks trade
d. an auction market based on the dealer system as opposed to the specialist system
50. SuperDOT is an electronic order routing system used
a. on Nasdaq
b. on Instinet
c. in the third market
d. on the NYSE
PRACTICE QUESTIONS Covers>> Returns, Portfolio Theory, and Bonds Chapters 6-9
1. In a 40 stock portfolio assumed to be well-diversified, nonmarket risk will account for approximately
a. 0-15% of total risk
b. 25-35% of total risk
c. 55-65% of total risk
d. 80-95% of total risk
2. Choose the correct statement about Markowitz portfolio theory as he derived it.
a. the efficient frontier starts as an arc and becomes a straight line
b. risk-free borrowing and lending expands the investor's opportunity set
c. beta is the measure of risk to use
d. there are many efficient portfolios on the efficient frontier, which is an arc
3. Calculate the expected value of a security with possible outcomes of
10%, with a probability of .2
20%, with a probability of .5
-15%, with a probability of .3
a. 8.5%
b. 17.5%
c. 19.5%
d. 7.5%
4. The geometric mean is
a. The better measure of expected return for the next period.
b. Always less than or equal to the arithmetic mean.
c. A measurement of the arithmetic average rate of return over multiple periods.
d. Sometimes larger than the arithmetic mean for stocks.
5. The required rate of return is
a. a return guaranteed to investors for assuming risk
b. a minimum realized return
c. the maximum return an investor expects to receive for investing in a stock with a particular amount of risk
d. a minimum expected rate of return
6. Under the Markowitz formulation, how many factors determine the expected return on a portfolio?
a. 4
b. 2
c. 3
d. 1
7. Select the CORRECT statement from among the following:
a. for a portfolio of 20 securities, there would be 400 covariances
b. for a portfolio of 20 securities, there would be 400 variances
c. for a portfolio of 20 securities, there would be 190 unique covariances
d. for a portfolio of 20 securities, there would be 380 total terms in the variance-covariance matrix
8. Select the INCORRECT statement from the following set concerning the Markowitz model:
a. In a large portfolio, the covariance term will be the more important of the two terms for calculating portfolio variance
b. In a large portfolio, portfolio risk will consist primarily of securities' covariances with other securities
c. As the number of securities held in a portfolio increases, the importance of each individual security's risk decreases
d. As the number of securities held in a portfolio increases, the importance of the covariance relationships decrease
9. Select the CORRECT statement from among the following:
a. When adding a security to a portfolio, the covariance between it and the other securities in the portfolio is less important than the security's own risk
b. Having established the portfolio weights, the calculation of the expected return on the portfolio is independent of the calculation of portfolio risk
c. The risk of a portfolio is a weighted average of individual security risks
d. Combining two securities with perfect negative correlation will always eliminate risk altogether
10. Select the INCORRECT statement from among the following:
a. combining two securities with perfect negative correlation will always eliminate risk altogether
b. the risk of a portfolio of five securities, using the Markowitz analysis, would consist of 20 covariances and 5 variances
c. the expected return on a portfolio is always a weighted average of the expected returns of the individual assets in the portfolio
d. COVAB = (AB (A (B
11. The Arithmetic mean return
a. represents the typical or likely performance of an asset for a single period.
b. Can be lower than the geometric mean if the returns are highly variable.
c. represents the true average return over multiple periods.
d. is used in measuring the wealth index.
12. The CWI for common stocks for 1926-1997 was $1828.33. The geometric mean average annual return for common stocks was 11%, and for the price change component was 6.20%. The cumulative price change component was $76.07. The cumulative Yield Index, in dollars, for common stocks for this period, based on this information, was:
a. $1828.33 - $76.07
b. $1828.33/$76.07
c. 11% - 6.20%
d. $1828.33 – [(6.20%)72]
13. The return relative for a stock bought at $46, sold at $34, and which pays a $1 dividend is
a. .760
b. .886
c. .841
d. 1.38
14. Which input does not have to be provided by the investor to perform the Markowitz analysis?
a. Covariations between the rates of return on securities
b. Expected returns for every security
c. Standard deviations for every security
d. Exact percentages of investable funds to be invested in each security
15. Choose the statement below most closely associated with the work of Markowtiz.
a. Risk-free borrowing and lending can change the efficient frontier.
b. Systematic risk can be identified and assessed.
c. The efficient frontier can be changed from an arc to a straight line.
d. Standard deviation is used as the measure of risk.
16. Concerning the riskiness of a portfolio of two securities, using Markowitz model, select the INCORRECT statement:
a. The riskiness depends on the variability of the securities in the portfolio.
b. The riskiness depends on the percentage of portfolio assets invested in each security.
c. The riskiness depends on the expected return of each security.
d. The riskiness depends on the amount of correlation among the security returns.
17. The relationship between the Total Return (TR) and the Return Relative (RR) is
a. RR = TR – 1
b. RR = 1/TR
c. RR = TR + 1
d. TR = RR + 1
18. The expected return on the market for next period is 16%. RF = 7%, and Alpha Corp has a beta of 1.1. In estimating the required rate of return for Alpha, the market risk premium is
a. 9.9%
b. 7%
c. 16%
d. none of these.
19. If a certain stock has a beta less than 1.0, it means
a. that the stock’s return is more volatile than that of the market portfolio.
b. that an investor can eliminate the risk by combining it with another stock that has a negative beta.
c. that an investor will earn a higher return on his stock than that on the market portfolio.
d. That the stock’s return is less volatile than that of the market portfolio
20. The YTM on a bond
a. Is an expected return.
b. Is the true realized return an investor will earn
c. Is a promised return, and is subject to conditions being met
d. Is a measure of the true yield that a bond investor is assured of receiving barring default
21. With regard to duration, choose the CORRECT statement:
a. Yield to maturity is inversely related to duration
b. Coupon is directly related to duration
c. Duration expands with time to maturity but at an increasing rate
d. Portfolio duration is a simple average of the durations of the individual bonds in the portfolio
22. Yield spreads are primarily a function of
a. Variables connected with a particular issue
b. Length of time to maturity.
c. Changes in the yield curve.
d. Changes in inflation.
23. An increase in reinvestment rate risk
a. is caused by an increase in interest rates.
b. leads to a decline in coupon rates.
c. results from a decline in interest rates.
d. results from an increase in inflation.
24. Select the correct strategy concerning a buy-and-hold strategy
a. It is not applicable to bond portfolios like it is to stock portfolios
b. It avoids the decision of having to make an initial selection
c. It is one strategy within the active family of portfolio strategies
d. Investors must still perform certain functions while the strategy is in existence
25. The total return for a 12% bond purchased at 1005, held for six months and sold for 1050 is
a. 3.3%.
b. 16.42%.
c. 5.7%.
d. none of the above
26. Select the CORRECT statement concerning bonds.
a. Bond prices are quoted as a percentage of par value.
b. Bonds do not trade on an accrued interest basis.
c. With bond price quotes, 1 point = $1.
d. Current yield is the ratio of the coupon to the par value of the bond.
27. On one recent day, the 30-year Treasury bond price moved 1 3/32 as yields rose. This means that the price of this bond
a. Rose by $1.938
b. Declined by $10.938
c. Rose by $10.938
d. Declined by $1.938
28. Which of the following bond relationships is DIRECT as opposed to inverse?
a. Interest rate changes and bond prices
b. Duration and maturity.
c. Coupon and duration.
d. Duration and yield to maturity
29. A corporate bond has a modified duration of 8. The approximate price change for this bond, given a rise in interest rates of 75bp, is
a. An increase in the price of approximately 6.6%
b. A decrease in the price of approximately 6%
c. A decrease in the price of approximately 6.6%.
d. A decrease in the price of approximately 12.36%
30. Convexity is important in bond analysis because
a. the price-yield relationship is imprecise.
b. the relationship between bond maturity and interest rate changes is convex.
c. the relationship between bond price changes and modified duration is an approximation.
d. The price-yield relationship is linear.
31. Which of the following statements is INCORRECT?
a. duration = weighted average time to recovery of all interest payments plus principal
b. required rate of return = risk-free rate + risk premium
c. risk-free rate of return = real rate of return + inflation premium
d. total risk = nondiversifiable risk + market risk
32. The standard deviation of the annual rate of return on common stocks over the period 1926-1998 has been about
a. 60%
b. 35%
c. 20%
d. 12%
33. When calculated for a period of, say, two years, the Realized Compound Yield consists of
a. The coupon income
b. The price change
c. The coupon income + the price change
d. The coupon income + the price change + the interest-on-interest
34. With regard to immunization
a. In many respects it is a hybrid strategy between passive strategies and active strategies.
b. There is only one type of immunization strategy.
c. It is a strategy designed to protect against reinvestment rate risk.
d. Once the strategy is undertaken, an investor does not have make any changes in the portfolio.
35. Choose the correct statement concerning the Cumulative Wealth Index
a. it is based on a multiplicative relationship
b. it can only be presented on a nominal basis
c. the CWI for corporate bonds is smaller than that for government bonds
d. it is similar to, but smaller than, the cumulative total return index
36. With regard to Total Return and Return Relative,
a. a -10% Total Return translates into a Return Relative of .90
b. a Total Return of -50% would translate into a Return Relative of 1.5
c. a Return Relative of 1.75 indicates a 0.75% Total Return
d. the income component of Total Return can be + or -
37. A U. S. investor invests in a French stock when the value of the franc stated in dollars is $0.20. The cost of the stock is 250 francs. One year later the stock is at 300 francs, and the stock paid a dividend of 10 francs. The franc is now at $0.19. Which of the following statements is CORRECT?
a. the dollar appreciated against the franc
b. the dollar depreciated against the franc
c. the francs from the investment buy more dollars when the investment proceeds are converted back from francs
d. this investment will experience a gain from the currency movement
38. Using the information in the previous question, determine the CORRECT answer.
a. the total return for a French investor in the stock is 20%
b. the total return for a U. S. investor after converting back to dollars was 24%
c. the total return for a U. S. investor after converting back to dollars was 17.8%
d. the total return for a French investor was 17.8%
39. The relationship between the geometric mean and the arithmetic mean is such that
a. as the standard deviation of returns increases, holding the arithmetic mean constant, the geometric mean decreases
b. the geometric mean can sometimes be larger that the arithmetic mean
c. (1 + A. M.)2 = (1 + G)2 - (S.D.)2
d. the variability of a series has no effect on the difference between these two means
40. Assume that the returns for two consecutive years for a stock are 16.76% and -2.0%. Which of the following statements regarding these two returns is CORRECT?
a. the geometric mean is 7.38%
b. $1 invested at the beginning of period 1 would have grown to $1.1530 by the end of period 2
c. the best estimate of the rate at which $1 would have grown over these two periods is 7.38%
d. $1 invested at the beginning of period 1 would have grown to $1.1442 by the end of period 2
41. The yield to maturity on a bond is
a. a promised yield
b. a realized yield
c. a measure of the true yield that a bond investor is assured of receiving barring default
d. almost always equal to the realized compound yield
42. A bond's intrinsic value is
a. determined by compounding the coupon amounts at the market yield
b. harder to determine than that of common stocks
c. determined by discounting the coupon amounts and the face value back to the present
d. the present value of all coupons to be received on the bond
43. The term structure of interest rates is
a. a static analysis of the relationship between bond prices and their yields
b. a dynamic analysis of the relationship between bond yields and their maturities
c. a static analysis of the relationship between bond yields and their maturities
d. an analysis of the relationship between the term to maturity and the current yield
44. If bond investors do not reinvest the coupons received during the life of the bond, then the
a. promised yield will be less than the realized yield.
b. promised yield will exceed the realized yield.
c. nominal yield will be greater than the promised yield.
d. current yield will equal the promised yield.
45. According to the Markowitz analysis, an efficient portfolio is one that
a. Has the largest expected return for the smallest level of risk.
b. Has the smallest level of risk
c. has the minimum risk for a specified level of return
d. has the largest expected return and zero risk
46. Which of the following bond relationships is NOT inverse?
a. Coupon and duration.
b. Duration and yield to maturity.
c. Interest rate changes and bond prices.
d. Duration and maturity.
47. Which of the following statements about duration is INCORRECT?
a. Duration combines coupon and maturity.
b. Bond price changes are directly related to duration.
c. Modified duration is used in the calculation of approximate price change for a bond
d. Duration is a complete measure of bond risk.
48. The expected return on the market for next period is 16%. The risk free rate is 7%, and IBM has a beta of 1.1. Its required rate of return is
a. 17.6
b. 16%
c. 16.9%
d. none of the above
49. Given the following information:
standard deviation for stock x = 12%; standard deviation for stock y = 20%
expected return for stock x = 16%; expected return for stock y = 22%
correlation coefficient between x and y = 0.30
Calculate the covariance between these two stocks:
a. .00125
b. 72
c. 240
d. 39.6
50. Under the CAPM, the relationship between the required rate of return and risk is assumed to be _______ and _______.
a. linear and downward sloping.
b. non-linear and downward sloping.
c. linear and upward sloping
d. non-linear and upward sloping.
PRACTICE QUESTIONS Covers>> Returns, Portfolio Theory, and Bonds Chapters 6-9
SET 2
1. Which of the following is CORRECT regarding zero-coupon securities?
a. They eliminate re-investment rate risk.
b. They are attractive to investors in high tax brackets.
c. They are only issued by corporations.
d. They offer minimum price volatility.
2. An increase in reinvestment rate risk
a. is caused by an increase in interest rates.
b. leads to a decline in coupon rates.
c. results from a decline in interest rates.
d. results from an increase in inflation.
3. According to the rate of return data, the geometric mean annual rate of return on Treasury bills has
a. been larger than the return on government bonds.
b. shown no risk, as measured by the standard deviation.
c. exceeded the rate of inflation, thereby providing a positive real return.
d. been in excess of 5%.
4. The total return for a 12% bond purchased at 1050, held for six months and sold for 1025 is
a. 3.33%.
b. 9.0%.
c. 5.7%.
d. 3.41%.
5. Select the INCORRECT statement concerning bonds.
a. Bond prices are quoted as a percentage of par value.
b. Bonds trade on an accrued interest basis.
c. Bonds sell at discounts when the stated coupons are less than the prevailing interest rate on a comparable new issue.
d. Most bonds are quoted as a percentage of par value, which is $100.
6. If the real rate of interest is 3%, and the market interest rate for short-term risk free securities is 6%, then the remaining 3% is
a. the actual inflation rate.
b. the expected liquidity premium.
c. the expected inflation rate.
d. the actual liquidity rate.
7. Which of the following statements about bond prices is INCORRECT?
a. Bond price volatility and time to maturity are directly related.
b. A decrease in yields raises bond prices more than a corresponding increase in yields lowers prices.
c. Bond price fluctuations and bond coupons are directly related.
d. Bond prices move inversely to bond yields.
8. If bond investors do not reinvest the coupons received during the life of the bond, then the
a. promised yield will be less than the realized yield.
b. promised yield will exceed the realized yield.
c. nominal yield will be greater than the promised yield.
d. current yield will equal the promised yield.
9. The term structure of interest rates
a. is a static analysis of the relationship between bond prices and their yields.
b. is a dynamic analysis of the relationship between bond yields and their maturities.
c. is a static analysis of the relationship between bond yields and their maturities.
d. is an analysis of the relationship between the term to maturity and the current yield.
10. Convexity is important in bond analysis because
a. the price-yield relationship is imprecise.
b. the relationship between bond maturity and interest rate changes is convex.
c. the relationship between bond price changes and modified duration is an approximation.
d. bonds have a convex relationship with duration.
11. Which of the following bond relationships is NOT inverse?
a. Coupon and duration.
b. Duration and yield to maturity.
c. Interest rate changes and bond prices.
d. Duration and maturity.
12. Duration is a measure of
a. The approximate price risk of a bond.
b. the true yield on a bond investment.
c. the original life of a bond.
d. the exact price volatility of a bond.
13. Which of the following statements about duration is INCORRECT?
a. Duration combines coupon and maturity.
b. Bond price changes are directly related to duration.
c. Modified duration equals duration divided by the yield to maturity
d. Duration is a complete measure of bond risk.
14. The geometric mean for S&P 500 stocks for 1920-2000 is 11.2%. The CWI for this period is
a. $4879.59
b. $5426.10
c. (11.2)80
d. (.112)81
15. Select the INCORRECT statement involving the required rate of return
a. it equals the risk-free rate plus the risk premium
b. ex ante, it must slope upward
c. the overall level of required rates of return changes as the risk premiums change
d. it is the maximum expected rate of return needed to induce an investor to purchase a security.
16. With regard to immunization
a. In many respects it is a hybrid strategy between passive strategies and active strategies.
b. There is only one type of immunization strategy.
c. It is a strategy designed to protect against reinvestment rate risk.
d. Once the strategy is undertaken, an investor does not have make any changes in the portfolio.
17. The yield to maturity on a 10 year zero coupon bond purchased for $500 is
a. 3.53%
b. 7.18%
c. 7.05%
d. 1.0353%
18. Select the INCORRECT statement from among the following:
a. The risk of a portfolio of two securities, as measured by the standard deviation, would consist of two terms.
b. The expected return on a portfolio is always a weighted average of the expected returns of the individual assets in the portfolio.
c. The risk equation for a portfolio of four securities, as measured by the standard deviation, would consist of 12 covariances and four variances.
d. Combining two securities with perfect negative correlation could eliminate risk altogether.
19. Select the INCORRECT statement from among the following:
a. combining two securities with perfect negative correlation will always eliminate risk altogether
b. the risk of a portfolio of five securities, using the Markowitz analysis, would consist of 20 covariances and 5 variances
c. the expected return on a portfolio is always a weighted average of the expected returns of the individual assets in the portfolio
d. COVAB = (AB (A (B
20. The yield to maturity on a bond
a. is a promised yield
b. is an expected yield similar to the expected value of a probability distribution
c. is a measure of the true yield that a bond investor is assured of receiving barring default
d. is almost always equal to the realized compound yield
21. With regard to bond price changes over time, chose the CORRECT statement:
a. holding maturity constant, a decrease in yields will raise bond prices on a percentage basis the same amount as a corresponding increase in rates will lower bond prices
b. bond price fluctuations and bond coupon rates are directly related
c. for a given change in market yields, changes in bond prices are inversely related to time to maturity
d. as interest rates change, the prices of long-term bonds will change more than the price of shorter term bonds, everything else being equal
22. With regard to duration, choose the INCORRECT statement:
a. duration expands with time to maturity but at a decreasing rate
b. yield to maturity is directly related to duration
c. coupon is inversely related to duration
d. duration is a measure of bond price sensitivity to interest rate movements
23. Current yield
a. is equal to coupon divided by par value
b. is a measure of the promised rate of return on a bond
c. is always greater than the coupon rate for bonds selling at a discount
d. is a correct measure of the expected return on a bond
24. The TR for a stock purchased at $24, held one year and paying $1 in dividends, and sold for $21 is
a. -8.3%
b. –9.5%
c. –4.2%
d. –4.8%
25. Which of the following statements is INCORRECT?
a. duration = weighted average time to recovery of all interest payments plus principal
b. required rate of return = risk-free rate + risk premium
c. risk-free rate of return = real rate of return + inflation premium
d. total risk = nondiversifiable risk + market risk
26. A change in the correlation coefficient of the returns of two securities in a portfolio causes a change in
a. both the expected return and the risk of the portfolio.
b. only the expected return of the portfolio.
c. only the risk level of the portfolio.
d. neither the expected return nor the risk level of the portfolio.
27. The CAPM leads to all of the following conclusions except:
a. beta is the most important measure of stock risk.
b. investors are compensated for taking total risk, which consists of systematic risk plus unsystematic risk.
c. a well-diversified portfolio has mostly systematic risk.
d. there is an upward-sloping tradeoff between required return and beta.
28. Select the INCORRECT statement:
a. Diversification can reduce the total risk for a portfolio.
b. Proper diversification can eliminate market risk.
c. The primary factor affecting the diversification of a portfolio is each security’s covariance with the other securities in the portfolio.
d. Diversification can reduce portfolio risk only if security return correlation is less than 1.0.
29. According to Markowitz’s mean-variance model, the variance of the portfolio is equal to
a. the weighted average of the individual variances.
b. The weighted covariances between all unique pairs of securities.
c. The weighted variances plus the weighted covariances of all pairs of securities.
d. The weighted coveriances plus the weighted betas of the securities.
30. Choose the portfolio from the following set that is NOT on the efficient frontier.
a. Portfolio A: expected return of 10% and standard deviation of 8%.
b. Portfolio B: expected return of 18% and standard deviation of 13%.
c. Portfolio C: expected return of 38% and standard deviation of 35%.
d. Portfolio D: expected return of 15% and standard deviation of 14%.
Stock X has an expected return of 15% and a standard deviation of 12%. Stock Y has an expected return of 21% and a standard deviation of 20%. Use this information to answer the following two questions:
31. If the correlation coefficient between X and Y’s return is 0.30, the expected return of an equally-weighted portfolio consisting of X and Y would be (round to no decimal place)
a. 19%
b. 16%
c. less than 16%
d. 18%
32. Assume now that the correlation coefficient between stocks X and Y is +1.0. Choose the investment below that represents the minimum risk portfolio.
a. 100% investment in stock Y.
b. 100% investment in stock X.
c. 50% investment in stock X and 50% investment in stock Y.
d. 80% investment in stock Y and 20% investment in stock X.
33. Choose the statement below most closely associated with the work of Markowtiz.
a. Risk-free borrowing and lending can change the efficient frontier.
b. Systematic risk can be identified and assessed.
c. The efficient frontier can be changed from an arc to a straight line.
d. Standard deviation is used as the measure of risk.
34. A portfolio holding 80% of its assets in an S&P 500 index fund and 20% in Treasury bills is most sensitive to:
a. systematic risk.
b. nonsystematic risk.
c. interest-rate risk.
d. reinvestment risk.
35. In a 50-stock portfolio assumed to be well-diversified, market risk will account for approximately
a. 5-15% of total risk.
b. 25-35% of total risk.
c. 55-65% of total risk.
d. 80-95% of total risk.
36. What is the covariance between Treasury bond returns, stated on an annual basis, and a risky security when the correlation coefficient is equal to +1.0
a. 0
b. +1.0
c. –1.0
d. Not enough information is given to answer this question.
37. Concerning the riskiness of a portfolio of two securities, using the Markowitz model, select the INCORRECT statement:
a. The riskiness depends on the variability of the securities in the portfolio.
b. The riskiness depends on the percentage of portfolio assets invested in each security.
c. The riskiness depends on the expected return of each security.
d. The riskiness depends on the amount of correlation among the security returns.
38. Which one of the following securities is undervalued? Rm = 15%; RF = 5%
| | ai | bi |Expected return |
|Security 1 | 5 | 1.0 | 20% |
|Security 2 | 7 | 1.2 | 15.5% |
|Security 3 | 8 | 0.8 | 12% |
|Security 4 | 4 | 0.7 | 11.5% |
11.
a. Security 1.
b. Security 2.
c. Security 3.
d. Security 4.
39. Choose the INCORRECT statement in the following set of statements about bonds.
a. The yield to call is a promised yield.
b. The current yield is equal to coupon divided by current market price.
c. The horizon return is an expected return.
d. The YTM is both a promised return and a realized return.
40. The SML can be used to analyze the relationship between risk and required return for
a. all assets.
b. inefficient portfolios.
c. only efficient portfolios.
d. only individual securities.
41. In a well-diversified 40 stock portfolio, nonmarket risk will account for approximately
a. 0-15% of total risk
b. 25-35% of total risk
c. 55-65% of total risk
d. 80-95% of total risk
42. Select the INCORRECT statement.
a. The SML uses beta as the measure of risk.
b. The SML is a relationship between expected return and risk for efficient portfolios only.
c. The beta for a stock measures its contribution to the risk of the market portfolio.
d. The larger the beta for a security, the larger its equilibrium expected return.
43. The expected return on the market for next period is 16%. The risk free rate of return is 7%, and Wilson Products Company has a beta of 1.1. In using this information to estimate the required rate of return for Wilson, the market risk premium is
a. 9.9%
b. 9%
c. 16%
d. none of these.
44. Select the CORRECT statement from among the following:
a. for a portfolio of 20 securities, there would be 400 covariances
b. for a portfolio of 20 securities, there would be 400 variances
c. for a portfolio of 20 securities, there would be 190 unique covariances
d. for a portfolio of 20 securities, there would be 380 total terms in the variance-covariance matrix
45. A U. S. investor invests in a French stock when the value of the franc stated in dollars is $0.20. The cost of the stock is 250 francs. One year later the stock is at 300 francs, and the stock paid a dividend of 10 francs. The franc is now at $0.21. Which of the following statements is CORRECT?
a. the dollar appreciated against the franc
b. the dollar depreciated against the franc
c. the francs from the investment buy more dollars when the investment proceeds are converted back from francs
d. this investment will experience a gain from the currency movement
46. Under the CAPM, an investor who owns a stock with a beta of –1.5 would expect the stock’s return to __________ in a market that was expected to decline 10 percent, everything else remaining constant.
a. rise by 15 percent.
b. fall by 15 percent.
c. rise by 1.5 percent.
d. fall by 1.5 percent.
47. The CWI for common stocks for 1926-1997 was $1,828.33. The geometric mean annual return for common stocks was 11%, and for the price change was 6.2%. The cumulative price change index for common stocks was $76.07. The Yield Index or income component for common stocks, based on this information, was
a. $1,828.33 / (1.062)72
b. $1,828.33 – (1.062)72
c. 11% - 6.2%
d. $1,828.33 – (6.2)72
48. Assume an investor with $100,000 to invest has two alternative mutual funds to choose from, each with an 8% annualized return over 30 years. Fund A has an average annual expense ratio of 1.20%, while Fund B has an average annual expense ratio of 0.30%. At the end of the 30 years,
a. Fund B will have a cumulative dollar return that is more than $200,000 larger than Fund A.
b. Fund B will have a cumulative dollar return that is more than $100,000 larger than Fund A, but less than $200,000
c. Because both funds earn at the rate of 8%, the difference between the final cumulative returns will not be very large
d. Since expenses are deducted only at the time of purchase, the final cumulative wealth cannot be affected too greatly
49. Choose the INCORRECT statement concerning the Cumulative Wealth Index
a. it is based on an additive relationship
b. it can be presented on a nominal or real basis
c. the CWI for corporate bonds is larger than that for government bonds
d. it is the total dollars at the end of some terminal period per initial dollar invested
50. With regard to Total Return and Return Relative,
a. a -10% Total Return translates into a Return Relative of 9.0
b. a Total Return of -50% would translate into a Return Relative of 0.5
c. a Return Relative of 1.75 indicates a 0.75% Total Return
d. the income component of Total Return can be + or -
51. If a U.S. Investor buys foreign securities, his or her dollar-denominated return will decrease if
a. the dollar appreciates in value.
b. the dollar depreciates in value.
c. the dollar remains unchanged.
d. domestic interest rates are higher.
52. The Arithmetic mean return
a. represents the typical or likely performance of an asset for a single future period.
b. is sometimes lower than the geometric mean especially when the returns are highly variable.
c. represents the true average return over multiple historical periods.
d. is used in measuring the wealth index.
53. Choose the INCORRECT statement concerning the returns data for 1920-2000.
a. The geometric mean for Large Common Stocks has been about 2 times the size of the geometric mean for Treasury bonds.
b. The standard deviation for Large Common Stocks has been about 2.5 times as large as the standard deviation for Corporate Bonds or Government Bonds.
c. The geometric mean for Treasury bills was lower than the geometric mean for inflation, resulting in a negative inflation-adjusted return for bills.
d. The geometric mean for Large Common Stocks was 11%, and for Small Common Stocks, roughly a couple of percentage points more.
54. The CWI for common stocks for 1920-1999 was $3228.33. The geometric mean average annual return for the price change component was 6.20%, and for the yield component was 4.17%. The geometric mean for common stocks can be calculated as:
a. $3228.331/80 - 1.0
b. $3228.33/$123.0159
c. 1.062% + 1.0417%
d. $3228.331/79 - 1.0
55. The relationship between the Total Return (TR) and the Return Relative (RR) is
a. RR = TR – 1
b. RR = 1/TR
c. RR = TR + 1
d. TR = RR + 1
56. Which of the following is INCORRECT concerning returns data for 1920-1998?
a. Corporate bonds outperformed Treasury bills.
b. Corporate bonds outperformed government bonds.
c. Inflation averaged about 5% a year on a geometric mean basis.
d. Small common stocks outperformed large common stocks.
57. The CWI for common stocks for 1920-1999 was $3,228.33. The geometric mean annual return for common stocks was 10.63%, and for the price change was 6.2%. The Cumulative Yield Index, based on this information, was
a. $24.034
b. $3,228.33 / (1.062)80
c. 10.63% / 6.2%
d. $3,228.33 – (6.2)80
58. Total return for a bond, as defined in the text, is
a. the difference between the sale price and purchase price of an investment.
b. measured as a percentage by dividing the sum of the gain or loss when the bond is sold or matures + any interest received by the amount invested.
c. the reciprocal of a return relative.
d. measured by dividing all cash flows received from an investment by its purchase price.
59. The Total Return on a bond purchased for $1000 that pays interest of $90 during the year and is sold for $900 at the end of one year is
a. -1%
b. 10%
c. -10%
d. 1%
60. The Geometric Mean Return is
a. typically equal to or greater than the arithmetic mean
b. used to measure the standard deviation of returns
c. the result of summing a series of arithmetic mean returns
d. the nth root of the product of a series of return relatives
61. The relationship between the geometric mean and the arithmetic mean is such that
a. as the standard deviation of returns increases, holding the arithmetic mean constant, the geometric mean decreases
b. the geometric mean can sometimes be larger that the arithmetic mean
c. (1 + A. M.)2 = (1 + G)2 - (S.D.)2
d. the variability of a series has no effect on the difference between these two means
62. Assume that the returns for two consecutive years for a stock are 16.76% and -2.0%. Which of the following statements regarding these two returns is CORRECT?
a. the geometric mean is 7.38%
b. $1 invested at the beginning of period 1 would have grown to $1.1530 by the end of period 2
c. the best estimate of the rate at which $1 would have grown over these two periods is 7.38%
d. $1 invested at the beginning of period 1 would have grown to $1.1442 by the end of period 2
63. The CWI for common stocks for 1926-1997 was $1,828.33. The geometric mean annual return for common stocks was 11%, and for the price change was 6.2%. The cumulative price change index for common stocks was $76.07. The Yield Index or income component for common stocks, based on this information, was
a. $24.034
b. $1,828.33 – (1.062)72
c. 11% / 6.2%
d. $1,828.33 – (6.2)71
64. The CWI for common stocks for 1926-1997 was $1828.33. The geometric mean average annual return for common stocks was 11%, and for the price change component was 6.20%. The cumulative price change component was $76.07. The cumulative Yield Index, in dollars, for common stocks for this period, based on this information, was:
a. $1828.33 - $76.07
b. $1828.33/$76.07
c. 11% - 6.20%
d. $1828.33 – [(6.20%)72]
65. The return relative for a stock bought at $46, sold at $33, and which pays a $1 dividend is
a. .760
b. .886
c. .739
d. 1.38
66. If a certain stock has a beta less than 1.0, it means
a. that the stock’s price is more volatile than that of the market portfolio.
b. that an investor can eliminate the risk by combining it with another stock that has a negative beta.
c. that an investor will earn a higher return on his stock than that on the market portfolio.
d. That the stock’s price is less volatile than that of the market portfolio
67. Under the security market line/CAPM approach, an investor who owns a stock with a beta of –1.5 would expect the stock’s return to __________ in a market that was expected to decline 10 percent, everything else remaining constant.
a. rise by 15 percent.
b. fall by 15 percent.
c. rise by 1.5 percent
d. fall by 1.5 percent
68. The expected return on the market for next period is 16%. The risk free rate is 7%, and IBM has a beta of 1.1. Its required rate of return is
e. 17.6
b. 16%
c. 16.9%
d. none of the above
69. given the following information:
standard deviation for stock x = 12%
standard deviation for stock y = 20%
expected return for stock x = 16%
expected return for stock y = 22%
correlation coefficient between x and y = 0.30
Calculate the covariance between these two stocks:
a. .00125
b. 72
c. 240
d. 39.6
70. Under the CAPM, the relationship between the required rate of return and risk is assumed to be _______ and _______.
a. linear and downward sloping.
b. non-linear and downward sloping.
c. linear and upward sloping
d. non-linear and upward sloping.
PRACTICE QUESTIONS Covers>> Common Stocks (Valuation and Management), Efficient Markets, Market/Economy, Industry, Company Analysis Chapters 10-15
1. Statistically testing the independence of stock price changes is a test of
a) weak form efficiency
b) semi-strong form efficiency
c) strong form efficiency
d) the seasonal effect
2. If the anomalies work, investors should prefer
a) low SUE, high P/E, small cap stocks
b) low SUE, low P/E, large cap stocks
c) high SUE, low P/E, small cap stocks
d) high SUE, high P/E, small cap stocks
3. Which of the following is not a market anomaly?
a) higher risk-adjusted returns for small firms than for large firms
b) high returns for stocks in January
c) lag in adjustment of stock prices to earnings announcements
d) the relationship between accounting changes and stock prices
4. ABC corp. expects to earn $4.00 per share next year, and pay $3.00 per share in dividends. Expected growth rate in dividends is 6%; required rate of return is 16%. The P/E ratio is
a) 6
b) 10
c) 7.5
d) 5
5. Calculate the estimated value of the following stock. Required rate of return: 15%; Dividend paid this year: $20; Expected constant growth rate of dividends: 10%
a) 4
b) 400
c) 440
d) none of the above
6. Xila expects to earn $4.00 per share next year, with an expected payout of 30%. Investors expect the dividend to grow at a constant rate of 8% for the foreseeable future. The risk-free rate is 5%, and the beta that is 10% more volatile than the market as a whole, and the expected return on the market is 14%. What is the estimated price of the stock?
a) $12.12
b) $50
c) $13.33
d) none of the above
7. Jack buys Wealth Enterprises for $40. He expects the firm's earnings and dividends to grow at an annual rate of 7%. The firm expects to earn $2.00 next year and the payout ratio is 100%. The market risk premium is 8%. Jack's expected rate of return is
a) 10%
b) 12%
c) 12.35%
d) 15%
8. Sardi Company currently earns $3.00 per share and currently pays $1.20 per share in dividends. It is expected to have a constant growth rate of 7% per year. The required rate of return is 14%. The price of this stock is
a) $42.86
b) $18.34
c) $17.14
d) $40.05
9. Walter Company currently earns $3.00 per share and pays $1.00 in dividends. The dividend is expected to double in 9 years and also to grow at that rate beyond that time. The required rate of return is 15%. The price of the stock is
a) $15.42
b) $6.66
c) $14.29
d) none of the above
10. Your required rate of return is 15.1%. Davis Drives is currently selling for $40 per share and is expected to pay a dividend of $3 next period. The expected constant growth rate is 7%. Which of the following statements is true?
a) you can justify buying this stock because: expected return > the required return
b) you cannot justify buying this stock because: the required return > the expected return
c) you cannot justify buying this stock because: the required return < the expected return
d) you can justify buying this stock because: the required return > than the expected return
11. Based on the last 10 economic slumps, the market P/E ratio
a) usually falls just before the end of a slump
b) usually falls just before the end of a slump and then rises strongly
c) usually rises just before the end of a slump and then falls sharply
d) usually rises just before the end of a slump and then remains roughly unchanged over the next year
12. Stock prices have almost always risen as the business cycle
a) approaches a peak
b) approaches a trough
c) coincides with a peak
d) hits a peak
13. In which stage of the industry life cycle do firms often offer stability in earnings and dividend growth?
a) pioneering stage
b) expansion stage
c) stabilization stage
d) in all three stages equally
14. What stage of the industry life cycle is likely to be of most interest to the majority of investors?
a) pioneering stage
b) expansion stage
c) maturity stage
d) declining stage
Given the following, answer the next two questions:
operating efficiency = 0.1
net income = $50,000,000; net income margin = 0.05
turnover = 2; leverage = 1.5; retention rate = 0.3
15. Find ROA
a) 0.05
b) 0.10
c) 0.15
d) 0.20
16. Find ROE
a) .225
b) .09
c) .15
d) .0225
17. Given the SUE's of 4 different stocks, which has the greatest unexpected earnings?
a) -3.5
b) -2.5
c) 2.0
d) 3.0
18. The two components of EPS are
a) ROA and leverage
b) book value and leverage
c) ROE and book value
d) leverage and profit margin
19. Other things equal,
a) as k rises, the P/E ratio rises
b) if the risk premium rises, k will fall
c) if the risk-free rate rises, k will rise
d) discount rates and P/E ratios move directly with each other
20. Bilbro Co., has a book value of $10, pays a current dividend of $1, has an ROE of .10, an ROA of .05, a leverage ratio of 2, and a profit margin of 15%. Its EPS are
a) $3
b) $2
c) $1.50
d) none of the above
21. An efficient market does not require that
a) stock prices incorporate all information
b) all known information be reflected in prices
c) the adjustments occur very quickly
d) each adjustment be perfect
22. Weak form market efficiency
a) is identical to the random walk hypothesis
b) incorporates semi-strong form efficiency
c) involves only price and volume information
d) is compatible with technical analysis
23. Which of the following is not a test of semi-strong form efficiency?
a) insider transactions
b) stock splits
c) accounting changes
d) dividend announcements
24. Which of the following is not a market anomaly?
a) higher risk-adjusted returns for small firms than for large firms
b) high returns for stocks in January
c) lag in adjustment of stock prices to earnings announcements
d) the relationship between accounting changes and stock prices
25. Low Labs last dividend was $1.50. Its current equilibrium stock price is $15.75, and its expected growth rate is a constant 5 percent. If the stockholders' required rate of return is 15 percent, what is the expected dividend yield and expected capital gains yield for the coming year?
a) 0%; 15%
b) 5%; 10%
c) 10%; 5%
d) 15%; 0%
26. Find the price of Motorroller Corp. if the expected growth rate in dividends is 14% for the next three years, after which the dividend is expected to slow down and grow at a rate of 6%. The current dividend is $3.00 per share, and the required rate of return is 18%. Round calculations to two decimal places.
a) $31.77
b) $26.17
c) $21.54
d) $15.94
e) none of the above
27. Which of the following statements is false?
a) dividends are the foundation of valuation for common stocks
b) the DDM states that the value of a stock is the discounted value of all future earnings
c) the DDM is operationalized by estimating the expected future dividends to be paid by a company and estimating the required rate of return
d) dividends are the only cash flow stream to be received directly by investors
28. Percy Pondscum & Company currently earns $3.00 per share and currently pays $1.20 per share in dividends. It is expected to have a constant growth rate of 7% per year. The risk free rate of return is 6%, the market risk premium is 8%, and the beta for this company is 1.0. The price of this stock is
a) $42.86
b) $18.34
c) $17.14
d) $40.05
e) none of the above
29. One investment strategy is to buy the ten Dow Jones industrial stocks with the highest dividend yields at the beginning of each year. The best explanation of why this strategy has been successful is that
a. you can’t lose on blue chips.
b. technical analysts issue buy recommendations, causing a temporary increase in demand.
c. the stocks represent a mini-index fund.
d. high yields may be the result of depressed prices, which may bounce back to previous levels.
30. Relative to the business cycle, stock prices tend to
a. move up following a spurt in economic growth.
b. move in tandem with economic growth.
c. turn down a few months prior to a general down turn in the economy.
d. move in a random fashion.
31. Based on the industry life cycle, investor risk is the highest during the
a. pioneering stage.
b. expansion stage.
c. stabilization stage.
d. declining stage.
32. In which stage of the industry life cycle do firms often begin paying dividends?
a. Pioneering stage
b. Expansion stage
c. Stabilization stage
d. Declining stage
33. An industry which is least affected by recessions and economic adversity is a(n)
a. growth industry.
b. defensive industry.
c. cyclical industry.
d. aggressive industry.
34. In which source of industry information can you find a ranking of industries in terms of timeliness?
a. Forbes
b. Value Line Investment Survey
c. Standard and Poor’s Industry Survey
d. Robert Morris Associates’ Annual Studies
35. Investors who are interested primarily in capital gains should avoid industries that are in the __stage because they have ______.
a. stabilization stage; low dividend payouts
b. stabilization stage; high dividend payouts and low growth prospects
c. pioneering; low dividend payouts
d. expansion stage; high risk
36. Which of the following statements about the industry life cycle is INCORRECT?
a. All industries can be classified very accurately into a specific phase of the life cycle.
b. Companies may not always fit into a particular stage of the life cycle.
c. Even the general framework may not apply to some industries.
d. It does not explicitly lead to stock price determination.
37. The most important point of Michael Porter’s analysis is that industry profitability is a function of the
a. economy.
b. interest-rate level.
c. industry structure.
d. industry beta.
38. Which of the following is NOT one of the five basic competitive factors in Michael Porter’s model?
a. Threat of new entrants.
b. Bargaining power of rivals.
c. Threat of substitute products or services.
d. Bargaining power of labor unions.
39. How would you explain P/E ratio differences among companies? By investor
a. expectations about the future growth of the market.
b. estimates of the recent growth of earnings.
c. expectations about the future growth of earnings.
d. estimates about the recent growth of dividends.
40. Other things equal, if the
a. required rate of return increases, the P/E ratio will rise.
b. risk premium increases, the P/E ratio will rise.
c. risk-free rate rises, the P/E ratio will fall.
d. dividend payout increases, the P/E ratio will fall.
41. Other things equal,
a. the higher the expected growth rate, the lower the P/E ratio.
b. if the risk-free rate rises, the required rate will decline.
c. as the required rate rises, the P/E ratio declines.
d. if the risk premium rises, the required rate will fall.
42. Which of the following statements is true?
a. Turnover is not related to ROA.
b. Leverage affects EPS.
c. ROA is a function of turnover and leverage.
d. EPS is solely a function of ROE.
43. If a firm’s ROA and ROE are equal, it can be concluded that the firm is
a. losing money.
b. liquid enough to pay some extra dividends.
c. financed by all equity.
d. financed by a high proportion of debt
44. Select the incorrect statement concerning a buy-and-hold strategy
a. it is applicable to the investor’s portfolio, whatever its composition
b. it avoids the decision of having to make an initial selection
c. it emphasizes the avoidance of transaction costs
d. investors must still perform certain functions while the strategy is in existence.
45. Select the incorrect statement involving the required rate of return
a. it equals the risk-free rate plus the risk premium
b. ex ante, it must slope upward
c. the overall level of required rates of return changes as the risk premiums change
d. it is the maximum expected rate of return needed to induce an investor to purchase a security.
46. High P/E stocks are generally associated with
a. mature companies.
b. cyclical companies.
c. young fast-growing companies.
d. defensive companies.
47. Stock prices tend to ___________ earnings surprises.
a. lead
b. lag behind
c. be coincident with
d. be independent of
48. When estimating the internal growth rate for a company,
a. what matters is the future growth rate
b. g = b x ROA
c. it is best to estimate the internal growth rate on the basis of one year’s results
d. empirical evidence clearly indicates that earnings trends persist.
49. A stock’s intrinsic value is
a. The estimated present value of the future stream of cash flows for the stock
b. The same as its market price
c. The sum of all dividends expected to be paid from now to infinity
d. Based on the accounting value of the assets
50. Two basic and distinct fundamental approaches to the valuation of common stocks are
a. technical analysis and the present value approach.
b. the P/E ratio approach and the earnings model.
c. the present value approach and the P/E ratio approach.
d. the efficient markets approach and the present value approach.
51. Which of the following types of industries are MOST volatile?
a. Interest rate-sensitive.
b. Cyclical.
c. Growth.
d. Defensive.
52. Gold mining is a good example of a
a. growth industry
b. defensive industry
c. cyclical industry
d. counter-cyclical industry.
53. Which of the stages of the industry life cycle offers the highest potential returns?
a. The pioneering stage.
b. The maturity stage.
c. The expansion stage.
e. The declining stage.
54. Relative to the business cycle, stock prices.
a. tend to move up following a spurt in economic growth
b. tend to move in tandem with economic growth
c. tend to turn down a few months prior to a general down turn in the economy
d. move in a random fashion.
55. All of the following represent exogenous variables in Keran’s model, EXCEPT
a. corporate tax rate
b. changes in government spending
c. changes in nominal money
d. the interest rate
56. According to Michael Porter,
a. the issue of competitive strategy involves the search for a competitive position in an industry
b. industry profitability determines the five competitive forces
c. industry structure is a function of industry profitability
d. investors must analyze industry profitability to assess the strength of the five competitive forces
57. Which of the following relationships are inverse, other things equal?
a. interest rates and stock prices
b. GDP and corporate profits
c. interest rates and P/E ratios
d. both a and c
e. none of the above
58. With regard to market P/E ratios, choose the INCORRECT statement
a. the multiplier is more volatile than the earnings component in determining the market’s level
b. P/E ratios tend to be high when inflation and interest rates are low
c. when analyzing the market, P/E ratios are always calculated using historical data
d. by historical standards, P/E ratios were unusually high in the late 1990s
59. With regard to the consistency of industry performance, choose the INCORRECT statement.
a. industry analysis is clearly valuable over time
b. even over very short periods, such as one month, industries can perform very differently.
c. industry rankings on a periodic basis such as yearly or quarterly are consistent
d. investors cannot choose those industries that have performed well recently and reliably expect them to continue to do so for the next several periods
60. Which of the following in not of the five competitive forces of Porter?
a. structural changes in the economy
b. bargaining power of buyers
c. threat of substitute products or services
d. threat of new entrants
61. In using the business cycle to make market forecasts, which of the following statements is INCORRECT?
a. it is particularly important to switch into stocks before business cycle troughs
b. as the economy recovers, stock prices may level off or even decline
c. based on the last 10 economic slumps, the market P/E usually falls just before the end of the slump
d. if the investor can recognize the bottoming out of the economy before it occurs, a market rise can be predicted, at least based on past experience, before the bottom is hit
PRACTICE QUESTIONS Covers>> Common Stocks (Valuation and Management), Efficient Markets, Market/Economy, Industry, Company Analysis Chapters 10-15 SET 2
1. Sector rotation is
a. one form of passive investing
b. an active strategy similar to stock selection
c. an attempt to earn excess returns by varying the percentage of portfolio assets in equity securities
d. not dependent on an accurate assessment of current economic conditions
2. The recommended framework for fundamental analysis
a. puts heavy emphasis on value versus growth stocks
b. concerns the relationship between active and passive strategies
c. is, in order, economy/market, industry and then company
d. uses the concept of efficient markets to make decisions
3. Select the INCORRECT statement concerning a buy-and-hold strategy
a. it is applicable to the investor's portfolio, whatever its composition
b. it does not avoid the decision of having to make an initial selection
c. it emphasizes the avoidance of transaction costs
d. investors do not have to perform any functions while the strategy is in existence
4. Select the INCORRECT statement involving the required rate of return for an individual stock
a. it equals the risk-free rate plus the market risk premium
b. ex ante, it must slope upward
c. the overall level of required rates of return changes as the risk premiums change
d. it is the minimum expected rate of return needed to induce an investor to purchase a security
5. Find the price of Unearthly Communications if the expected growth rate in dividends is 14% for the next three years, after which the dividend is expected to slow down and grow at a rate of 6%. The current dividend is $2.00 per share, and the required rate of return is 18%. Round calculations to two decimal places.
a) $31.77
b) $26.17
c) $21.58
d) $15.94
6. The most important point of Michael Porter's analysis is that industry profitability is a function of
a. the economy
b. industry structure
c. interest rate levels
d. the industry life cycle
7. Johnson stock is currently selling for $40. The expected dividend is $2. This is a constant growth firm. If investors require a return of 15% on this stock, what do they think the growth rate will be?
a. 6%
b. 7%
c. 8%
d. 11%
e. none of the above
8. A stock’s intrinsic value is
a. The estimated present value of the future stream of cash flows for the stock
b. The same as its market price
c. The sum of all dividends expected to be paid from now to infinity
d. Based on the accounting value of the assets
9. Which of the following statements is CORRECT concerning the DDM?
a) earnings are the foundation of valuation for common stocks
b) the DDM states that the value of a stock is the discounted value of all future dividends
c) the DDM is operationalized by estimating the expected future earnings to be paid by a company, estimating the required rate of return, and discounting
d) earnings are the only cash flow stream to be received directly by investors
10. Williams & Company is expected to earn $3.00 per share and is expected to pay $1.20 per share in dividends. It is expected to have a constant growth rate of 7% per year. The risk free rate of return is 6%, the market risk premium is 8%, and the beta for this company is 1.0. The price of this stock is
a) $42.86
b) $18.34
c) $17.14
d) $40.05
e) none of the above
11. In which stage of the industry life cycle do financial policies become firmly established?
a. pioneering stage
b. expansion stage
c. stabilization stage
d. all of these
12. How would you explain P/E ratio differences among companies? By investor
a. expectations about the future growth of the market.
b. estimates of the recent growth of earnings.
c. expectations about the future growth of earnings.
d. estimates about the recent growth of dividends.
13. Other things equal, if the
a. required rate of return increases, the P/E ratio will rise.
b. risk premium increases, the P/E ratio will rise.
c. risk-free rate rises, the P/E ratio will fall.
d. dividend payout increases, the P/E ratio will fall.
14. When considering the determinants of the P/E ratio,
a. the lower the expected payout ratio, the higher the P/E ratio, other things equal.
b. P/E and g are inversely related.
c. the relationship between k and the P/E ratio is direct.
d. as k declines, the P/E ratio increases
15. The example of IBM in the text regarding earnings estimates illustrates that the price may drop significantly, even if earnings are up significantly over the corresponding quarter of the previous year,
a. if dividends are higher than expected.
b. if earnings are even slightly lower than expected.
c. only if earnings are substantially lower than expected.
d. only if long-run earnings prospects are affected.
16. Which of the following is not a market anomaly?
a. IPOs
b. Value Line rankings
c. The size effect
d. Unexpected earnings
17. When estimating the internal growth rate for a company,
a. what matters is the future growth rate
b. g = b x ROA
c. it is best to estimate the internal growth rate on the basis of one year’s results
d. empirical evidence clearly indicates that earnings trends persist.
18. In which stage of the industry life cycle do financial policies become firmly established?
a. pioneering stage
b. expansion stage
c. stabilization stage
d. all of these
19. Which of the following factors is NOT a competitive factor for an industry?
a. Threat of substitute products.
b. Bargaining power of buyers.
c. Government policy.
d. Rivalry between existing competitors.
20. Which of the following types of industries are MOST volatile?
e. Interest rate-sensitive.
f. Cyclical.
g. Growth.
h. Defensive.
21. Which of the stages of the industry life cycle offers the greatest return potential?
a. The pioneering stage.
b. The maturity stage.
c. The expansion stage.
f. The declining stage.
22. Relative to the business cycle, stock prices.
e. tend to move up following a spurt in economic growth
f. tend to move in tandem with economic growth
g. tend to turn down a few months prior to a general down turn in the economy
h. move in a random fashion.
23. All of the following represent exogenous variables in Keran’s model, EXCEPT
e. corporate tax rate
f. changes in government spending
g. changes in nominal money
h. the interest rate
24. Assume that the dividend payout ratio on the S&P 100 will be 40 percent when the rate on long-term government bonds falls to 9 percent. Investors demand an equity risk premium of 8 percent. If the growth rate of dividends is expected to be 10 percent, what is the price of the market index if the earnings expectation is $30?
a. $384.00
b. $213.44
c. $266.56
d. $171.43
25. Investor A and investor B both have required rates of return of 12%. They are considering the purchase of XTRA stock, which each views as a constant growth case. Both have estimated the dividend for the next period at $1.00, and both agree that the expected growth rate in dividends will be 6% a year. However, investor A plans to buy the stock and hold it for 10 years, while investor B plans to buy the stock and hold it for ONLY 1 year. Which of the following statements is TRUE?
a. Investor A should be willing to pay more for this stock than B.
b. Investor B should be willing to pay more for this stock than A.
c. Both investors should be willing to pay the same price for the stock.
d. None of these.
26. The required rate of return for ZONA is 15%, and the current dividend of $1.50. g = 12%. Calculate the formula price.
a. $44
b. $42
c. $37.50
d. none of the above
27. Calculate the estimated value of the following stock. Required rate of return: 15%; Expected dividend next year: $20
Expected constant growth rate of dividends: 10%
a) 4
b) 400
c) 440
d) none of the above
28. Which of the following statements is false?
a) dividends are the foundation of valuation for common stocks
b) the DDM states that the value of a stock is the discounted value of all future earnings
c) the DDM is based on a present value process
d) dividends are the only cash flow stream to be received directly by investors
29. Choose the INCORRECT statement concerning the DDM:
a. It is based on the position that the price of a stock is the discounted value of all future dividends
b. Not all of its three growth rate cases involve a present value process
c. The no growth rate case is the least likely case to be encountered
d. The multiple growth rate case involves at least two different growth rates
30. Common stocks are difficult to value because
a. The price change component of total return, unlike the income component, cannot be known with certainty
b. The DDM equation involves an infinity sign
c. Inflation affects stock returns more than bond returns
d. Both the cash flows and the required rate of return must be estimated
31. Which of the following statements is TRUE?
a. valuation is an art and not a science
b. required rates of return for an asset remain unchanged over time
c. earnings per share for next year can be estimated with little error
d. an investor’s holding period is relevant for valuation
32. Testing investor reactions to announcements and news is
a. a weak-form statistical test
b. a weak-form test of technical trading rules
c. a semi-strong form test
d. a strong-form test
33. Johnsey Industries' current dividend is $2. The average growth rate for the past many years has been steady at 8%, but the consensus of analysts is that the expected growth rate is 6% . k = 16%. The intrinsic value of this stock is:
a. $20
b. $18.80
c. $9.09
d. $21.20
34. Poindexter Industries is currently selling for $50. The firm’s earnings and dividends are expected to grow at a constant annual rate of 8%, and the firm has a payout ratio of 60%. The firm earned $3.00 in the most recent period. The expected rate of return on this stock is
a. 11.89%
b. 11.6%
c. 14%
d. 14.48%
35. X Corp. has retained on average 70% of its earnings in the business. The future retention rate is expected to remain the same. The long-run earnings growth is expected to be 10%. The risk-free rate is 8%, the expected return on the market is 12%, the beta is 2.0, and the most recent dividend was $1.50. What are the most likely market price and P/E for this stock today?
a. $27.50, 5x
b. $33, 6x
c. $25, 5x
d. $22.50, 4.5x
e. $45, 4.5x
36. Using the constant growth model, an increase in the required rate of return from 15 to 16%, combined with an increase in the growth rate from 7 to 8%, would cause the price of a constant growth stock, to: (assume the next dividend is $2.00)
a. increase in price
b. decrease in price
c. stay the same
d. not enough information to answer the question
37. BLC Industries is expected to pay a dividend of $1.50, and the dividend is expected to grow at a constant rate of 7%. This stock is 15% less risky than the market as a whole. The risk-free rate is 6%, and the equity risk premium for the market is 8%. The estimated price of the stock is
a. $18.75
b. $21.43
c. $27.76
d. $25.86
38. Your required rate of return is 15%. Z Corp. is currently selling for $40 and is expected to pay a dividend of $2.75 next period. The expected constant growth rate is 8%. Which of the following statements is true?
a. You can justify buying this stock because the expected return is greater than the required return
b. You cannot justify buying this stock because the required return is greater than the expected return
c. You cannot justify buying this stock because the required return < the expected return
d. You can justify buying this stock because the required return > the expected return
39. Price to book value is
a. the ratio of book value to stockholder's equity
b. most useful when book value and market value differs sharply
c. sometimes used to value companies
d. useful because it avoids any accounting problems
40. Fundamental analysts assume that the market price and intrinsic value of a stock
a. are always identical
b. can differ from time to time
c. bear no relationship to each other
d. none of these
41. An efficient market does NOT require that
a. the adjustment occur very quickly
b. all known information be reflected in prices
c. each adjustment be perfect
d. stock prices incorporate all information
42. Which of the following statements is FALSE?
a. turnover is a measure of efficiency
b. leverage measures how the firm finances its assets
c. EPS is solely a function of ROE
d. ROA is a fundamental measure of firm profitability
43. ABC Company has been growing at a 10% rate, and it just paid a dividend of D0 = $3.00. Due to a new product, ABC expects to achieve a dramatic increase in its short-run growth rate, to 20% annually for the next 2 years, after which growth is expected to return to the long-run constant rate of 10 percent. The company’s beta is 2.0, the required return on an average stock is 11 percent, and the risk-free rate is 7 percent. What should the dividend yield (D1/P0) be today? Round calculations to two places.
a. 3.93%
b. 4.60%
c. 10.00%
d. 7.54%
44. Which statement about the required rate of return is FALSE?
a. There are many required rates of return.
b. The average required rate of return on bonds is different from that generally required in common stocks.
c. Investor optimism leads to an increase in the required return for a particular stock.
d. The level of the required rates of return changes over time.
Given the following, answer the next two questions:
operating efficiency = 0.1
net income = $50,000,000; net income margin = 0.15
turnover = 2; leverage = 1.5; retention rate = 0.3
45. Find ROA
a) 0.30
b) 0.10
c) 0.15
d) 0.225
46. Find ROE
a) .225
b) .3375
c) .15
d) .45
47. Based on the last 10 economic slumps, the market P/E ratio usually
a. falls just before the end of a slump
b. falls just before the end of a slump and then rises strongly
c. rises just before the end of a slump and then falls sharply
d. rises just before the end of a slump and then remains roughly unchanged over the next year
48. A firm expects to pay dividends at the end of each of the next four years of $2.00, $1.50, $2.00, and $3.50. If growth is then expected to level off at 8 percent, and if you require a 14 percent rate of return, what is the estimated price of this stock? Round calculations to two places.
a. $67.81
b. $22.49
c. $58.15
d. $31.00
e. none of the above
49. The Smith Reclamation Company has been hit hard due to increased competition. The company’s analysts predict that earnings (and dividends) will decline at a rate of 5 percent annually from now on. k = 14% and D0 = $2.00. What will be the price of the company’s stock four years from now? Round all calculations to two places.
a. $27.17
b. $11.11
c. $28.50
d. $10.18
e. $8.16
50. Bartley Co. has a book value of $10, pays a current dividend of $1, has an ROE of .10, an ROA of .15, a leverage ratio of 2, and a profit margin of 15%. Its EPS are
a) $3
b) $2
c) $1.50
d) none of the above
PRACTICE QUESTIONS Covers>> Technical Analysis from Chapter 16
1. A support level is a price range
a. at which a technician expects a significant increase in the demand for a stock.
b. at which a technician expects a significant increase in the supply of a stock.
c. below which the price cannot go.
d. above which the price cannot go.
2. Conclusions about technical analysis suggest that
a. Because it is popular among many practitioners, investors can justify technical analysis.
b. Not all of the techniques of technical analysis have been examined and therefore technical analysis cannot be declared officially to be deficient.
c. it is obvious from analysis that stocks’ price movements should repeat themselves, thereby justifying the pursuit of technical analysis.
d. there is unanimous agreement on the interpretation of maajor technical analysis signals, such as those involving the Dow Theory
3. With regard to the Dow theory,
a. one favorable aspect is that only one version is used by everyone.
b. confirmations arrive quickly, and are clear.
c. it is intended only to forecast the start of a primary movement.
d. the amount of price movement needed for a confirmation is universally agreed upon.
4. The principal shortcoming of the Dow theory is
a. its use of Dow Jones averages instead of more broad-based indexes.
b. Its attention to general market movements instead of individual stocks.
c. That it is based only on primary trends and ignores secondary trends.
d. That it is interpreted in various ways by its users and may therefore be predicting conflicting movements at the same time.
5. Which of the following assumptions is made by technical analysts?
a. Changes in trend are caused by the shifts in demand and supply relationships.
b. Stock price changes are independent.
c. Security prices tend to move in trends which persist only for very short time periods but can be exploited.
d. Supply of and demand for securities are governed by various factors, but at least they are all rational.
6. Technical analysts advocate that stock prices ___________; while the efficient market hypothesis holds that stock prices ______.
a. adjust gradually toward a new equilibrium; adjust rapidly toward a new equilibrium
b. are the present value of expected future cash flows;result from short-term supply and demand
c. follow a random walk with no trends;adjust gradually to economic news after a lag
d. are of no predictive value; are good for projecting future prices
7. Technicians
a) rely heavily on estimates of intrinsic value
b) are interested primarily in price levels
c) tend to concentrate on the long run
d) focus on price changes as an indication of the forces of supply and demand for a stock or the market
8. A major assumption of technical analysis is that
a) prices adjust to new information very quickly
b) fundamental data are quite helpful and should be used
c) published market data are of little value
d) trends in stock prices occur and continue for considerable periods of time
9. With regard to the advance-decline line,
a. the net advance for a given day can only be positive
b. it measures the number of stocks advancing in price
c. no additional information is necessary to interpret it
d. it is sometimes referred to as the breadth of the market
10. With regard to technicians, we can say
a. they are interested specifically in the price levels of stocks
b. they believe that prices adjust gradually toward a new equilibrium level
c. they do not believe that patterns repeat themselves but they are willing to take advantage of this is it does occur
d. they believe that published market data such as price and volume data are of little value
11. Technical analysis is
a) applicable only to individual stocks
b) predicated on instant adjustment to a new equilibrium
c) closely related to fundamental analysis
d) primarily a timing technique
12. Conclusions about technical analysis suggest that
a. although popular among many practitioners, it is difficult to justify technical analysis.
b. all the techniques of technical analysis have been examined and found to be deficient.
c. it is clear that stocks’ price movements should repeat themselves, thereby justifying the pursuit of technical analysis.
d. there is almost unanimous agreement on the interpretation of technical analysis signals.
13. Sentiment indicators include all of the following except:
a. short-interest ratio
b. advance-decline line
c. mutual fund liquidity
d. the opinions of investment advisory newsletters
14. Select the CORRECT statement about the resistance level.
a. Resistance levels tend to develop due to profit taking.
b. A resistance level is the level at which a significant decrease in demand is expected.
c. A resistance level is the price range at which a significant increase in supply is expected.
d. Resistance levels tend to develop after a stock price rises from a previous low.
15. Which of the following assumptions is NOT one made by technical analysts?
a. Changes in trend are caused by the shifts in demand and supply relationships.
b. Stock prices follow a random walk.
c. Security prices tend to move in trends which persist for a reasonable length of time.
d. Supply of and demand for securities are governed by various factors, rational and irrational.
16. Under what type of charting technique is volume and specific calendar time not considered important?
a. pie chart.
b. point and figure chart.
c. bar chart.
d. histogram.
17. Technicians are of the opinion that a stock that is outperforming its industry or market index will tend to
a. converge its equilibrium level shortly.
b. continue to outperform the market for a reasonable length of time.
c. soon reverse its trend.
d. reach a resistance level shortly.
18. Technicians are interested in price movements and volume changes for certain stocks. To them
a. a price decline accompanied by heavy volume would indicate a “buy” signal.
b. a price increase accompanied by heavy volume would indicate a “sell” signal.
c. a price decline with light volume would be considered a “buy” signal.
d. a price increase accompanied by heavy volume would indicate a “buy” signal.
19. A daily accumulation of the net number of NYSE stocks advancing or declining is used in
a) volume of trading analysis
b) relative strength analysis
c) breadth of market analysis
d) short interest analysis
20. Which of the following is not classified as a contrary investing rule?
Which of the following is NOT classified as a contrary trading rule?
a. relative strength ratio
b. investment advisory opinions
c. mutual fund liquidity
d. put/call ratio
21. With regard to relative strength analysis, which statement is INCORRECT?
With regard to relative strength which statement is INCORRECT?
a. The relative strength of a stock over time may be of use in forecasting
b. An upward sloping line when relative strength is plotted indicates relative strength
c. One of the benefits of relative strength is that a stock could show increasing relative strength because it is declining less quickly than the market
d. Relative strength is often used by technicians to identify industry sectors that look attractive.
PRACTICE QUESTIONS Covers>> Options and Futures from Chapters 17-18
1. A call option written against stock owned by the writer is said to be
a) naked
b) in the money
c) out of the money
d) covered
2. The per-share price at which the common stock may be purchased (in the case of a call) or sold to a writer (in the case of a put) is called the
a) premium
b) strike price
c) in the money price
d) intrinsic value
3. Which of the following is not a determinant of the value of a call option in the Black-Scholes model?
a) the interest rate
b) the exercise price of the stock
c) the price of the underlying stock
d) the expected return for the underlying stock
4. To protect a short sale, an investor could
a) buy a call
b) write a call
c) buy a put
d) write a put
5. If the price of the common stock exceeds the exercise price of a call, the call is said to be
a) naked
b) out of the money
c) in the money
d) covered
6. Options sold on exchanges are protected against
a) stock dividends and splits
b) cash dividends
c) interest rate movements
d) none of the above
7. To protect a profit on an individual stock owned, an investor could
a) buy a call
b) write a put
c) buy a stock index option
d) buy a put
8. Other things equal, when an option first becomes available in the market
a) option values decrease with maturity
b) option values increase with maturity
c) the volatility of the stock is negatively related to the value of a call option
d) an out of the money option has no time value
9. A writer of a call can terminate that particular contract anytime before its expiration by
a) writing a second call
b) buying a put
c) buying a comparable call
d) writing a put
10. The writer of a naked call faces
a) an unlimited potential gain
b) a specified potential loss
c) no chance of loss because this is a conservative strategy
d) a limited potential gain
11. Option prices almost always
a) exceed intrinsic values
b) are less than intrinsic values
c) equal intrinsic values
d) are at least 50% of the underlying stock prices
Questions 12-15 are based on the following options data for XYZ corporations, whose stock closed at 34 7/8 on April 1.
------ Calls -------- ------ Puts ---------
Exercise Price Jun Sept Dec Jun Sept Dec
25 10 3/8 1/16 3/16
30 5 1/2 5 7/8 3/8 7/8
35 1 15/16 3 1/4 4 1/8 1 3/4 2 15/16 3 1/8
40 7/16 1 7/8 1 1/8
12. The in-the-money call options are represented by contracts with exercise prices of (ignoring commissions):
a) 35 and 40
b) 25 and 30
c) 35 only
d) none of the above
13. Out-of-the-money put options are represented by contracts with exercise prices of (ignoring commissions):
a) 25 and 30
b) 30 and 35
c) 35 and 40
d) none of the above
14. The minimum price for the June 25 call, had it traded, must be at least:
a) 12
b) 4 7/8
c) 10 1/2
d) 9 7/8
15. Assume that a put price of 5 1/4 has been omitted from the information given. It most likely would be placed with which contract?
a) The December 25 put
b) The December 40 put
c) The June 40 put
d) The September 40 put
16. Buying a straddle
a) eliminates risk
b) means the buyer implicitly assumes the stock price will move very little
c) reduces or eliminates the need to forecast the market
d) means the seller implicitly assumes that the stock price will exhibit small volatility
17. A spread is
a) the purchase and sale of an equivalent option varying in only one respect
b) a combination of two puts and a call
c) a combination of two calls and a put
d) a combination of a put and a call on the same stock with the same exercise date and exercise price
18. Which of the following statements is INCORRECT?
a) in the money for a call means that the stock price exceeds the exercise price
b) out of the money for a call means that the stock price is less than the exercise price
c) if a call is out of the money, the intrinsic value is zero
d) if a call is in the money, the intrinsic value is zero
19. Which of the following statements is INCORRECT?
a) options are a wasting asset
b) option prices almost always exceed intrinsic values
c) as expiration approaches, the time value of the option declines to zero
d) the speculative premium reflects the option's immediate value
20. Which of the following statements is CORRECT?
a) the speculative premium reflects the option's immediate value
b) if a call is in the money, the intrinsic value is zero
c) an option's premium almost never declines below its intrinsic value
d) if the exercise price exceeds the stock price, a call is said to be in the money
21. Which of the following statements is INCORRECT?
a) an option's premium almost never declines below its intrinsic value
b) option prices almost always exceed intrinsic values
c) out of the money for a call means that the stock price is less than the exercise price
d) the intrinsic value reflects the option's potential appreciation
22. The price of Zero Industries common is $68. A two month call option on Zero with a strike price of $60 has a price of $9. Which of the following is CORRECT?
a) the intrinsic value is $8 and the speculative premium is $1
b) the intrinsic value is $1 and the speculative premium is $8
c) the intrinsic value is $9
d) the speculative value is $9
23. A two month put with a strike price of $70 is available on Zero for a premium of $5. Which of the following is CORRECT?
a) the speculative premium is $2
b) the intrinsic value is $3
c) the intrinsic value is $5
d) the intrinsic value is $2
24. For Zero Industries stock, selling at $68, with a two month put available for a premium of $5 at a strike price of $70, which statement is CORRECT?
a) the intrinsic value is $2 and the speculative premium is $3
b) the intrinsic value is $3 and the speculative premium is $2
c) the intrinsic value is $5 and the speculative premium is $0
d) none of these statements are correct
25. Which of the following statements about portfolio insurance is INCORRECT?
a) there are several methods of insuring a portfolio
b) it seeks to provide a minimum return while offering the opportunity to participate in rising prices
c) it is costless
d) puts and calls typically are not used to insure portfolios
26. Concerning index options, which of the following statements is INCORRECT?
a) they appeal to speculators because of the leverage they offer
b) investors can write index options
c) index options work exactly like options on individual stocks
d) index options are settled in cash
27. Regarding options prices,
a) at expiration, a call must have a value that is the maximum of 0 or its intrinsic value
b) at expiration, a call must have a value that is the minimum of 0 or its speculative value
c) the minimum price for a call is the price of the underlying stock
d) the maximum price for a call is its speculative premium
28. Regarding options prices,
a) at expiration, a put must have a value that is the maximum of 0 or its intrinsic value
b) at expiration, a put must have a value that is the minimum of 0 or its speculative value
c) the minimum price for a put is the price of the underlying stock
d) the maximum price for a put is its speculative premium
29. Regarding options prices,
a) at expiration, a call must have a value that is the minimum of 0 or its intrinsic value
b) at expiration, a put must have a value that is the minimum of 0 or its intrinsic value
c) the minimum price for a put is the price of the underlying stock
d) the maximum price for a call is the price of the underlying stock
30. In the Black-Scholes model,
a) all of the inputs except two are observable
b) all of the inputs except one are observable
c) the greater the price, the lower the price of the call option
d) the value of a call and market interest rates are indirectly related
31. Futures contracts can be settled only by
a) delivery
b) offset
c) delivery or offset
d) none of the above
32. Unique characteristics of futures contracts include:
a) short selling can be done only on an "uptick"
b) margin is not allowed
c) positions can remain open indefinitely
d) there are no specialists on futures exchanges
33. Which of the following securities is not available as an interest rate futures contract?
a) corporate bonds
b) Treasury notes
c) GNMA securities
d) CDs
34. To protect the value of a bond portfolio against a rise in interest rates using interest rate futures, the portfolio owner could execute a
a) long hedge
b) weighted long hedge
c) short hedge
d) none of the above
35. With regard to the basis,
a) basis risk can be eliminated completely
b) although the basis fluctuates over time, it can be predicted precisely
c) changes in the basis cannot affect the final results while a hedge is in effect
d) basis fluctuations are usually less volatile than price fluctuations
36. A futures contract
a) is a nonnegotiable, nonmarketable instrument
b) is a security, like stocks and bonds
c) is a firm agreement by two parties to make or take delivery of an item sometime in the future
d) is not a legal contract, and therefore its terms can be changed during the life of the contract
37. With financial futures, margin
a) is seldom used
b) indicates that credit is being extended
c) is a down payment
d) in effect, is a performance bond
38. Futures contracts
a) are marked to the market daily
b) can be sold short only on an "uptick"
c) are handled by specialists on futures exchanges
d) have no daily price limits, as do options
39. Investors use financial futures on stock market indices to hedge against
a) diversifiable risk
b) market risk
c) unsystematic risk
d) none of the above
40. An appealing feature of options on futures contracts is
a) that sellers do not have to deposit margin when opening a position
b) the limited liability assumed by the purchaser
c) that losses virtually never occur
d) that margin calls occur less frequently than with futures contracts
41. A short hedge with stock index futures
a) is designed to offset any realized losses on the stock portfolio with gains on the futures position
b) is designed to offset any realized losses on the futures portfolio with gains on the stock position
c) is designed to offset any losses on the stock portfolio with gains on the futures position; these losses may be realized or unrealized
d) none of the above
42. The futures market serves a valuable economic purpose by
a) allowing speculators to shift risks to hedgers
b) completely eliminating all price risk
c) allowing hedgers to shift risks to speculators
d) making hedging a completely automatic process
43. An investor with a bond portfolio wishes to protect the value of the position by using futures contracts. This investor
a) should go long in the futures market
b) should go long in the cash market
c) should go short in the futures market
d) will not be able to protect the position at all using futures
44. With regard to options on futures, as the strike price rises above the current futures price,
a) the premiums on calls decline
b) the premiums on calls rise
c) the premiums on puts decline
d) none of the above is true
45. One difference between futures contracts and stocks is that
a) most futures prices can fluctuate in an unlimited manner
b) margin is the norm in stock trading but not in futures
c) transaction costs are handled differently
d) a short position in stocks must be closed out within a specified period but futures positions can remain open indefinitely
PRACTICE QUESTIONS Covers>> Portfolio Theory and Capital Market Theory from Chapters 19-20
1. Choose the statement below NOT associated with the work of Markowtiz.
a. Risk-free borrowing and lending can change the efficient frontier.
b. Covariance plays a major role in the calculation of risk .
c. The efficient frontier is an arc and not a straight line.
d. Standard deviation is used as the measure of risk.
2. The key assumption of the Single Index Model is
a. The market index is unrelated to the residual error
b. There are industry effects in the market
c. The only way securities are related is in their common response to the market index
d. Residual errors for securities are correlated with each other
3. In a 50-stock portfolio assumed to be extremely well-diversified, nonmarket (diversifiable) risk will account for approximately (choose the closest answer)
a. 5-15% of total risk.
b. 25-35% of total risk.
c. 55-65% of total risk.
d. 80-95% of total risk.
4. For a universe of 300 securities, the Sharpe model requires ________ total pieces of data.
a. 900
b. 302
c. 902
d. 300
5. Concerning the riskiness of a portfolio of two securities, using the Markowitz model, select the INCORRECT statement:
a. The riskiness depends on the variability of the securities in the portfolio.
b. The riskiness depends on the percentage of portfolio assets invested in each security.
c. The riskiness depends on the expected return of each security.
d. The riskiness depends on the amount of correlation among the security returns.
6. Which of the following statements about the difference between the SML and the CML is CORRECT?
a. The intercept of the CML is RF and the intercept of the SML is RF.
b. The SML is concerned with efficient portfolios while the CML is concerned with all portfolios or securities.
c. Ex post, the CML could be downward sloping while that is impossible for the SML.
d. The CML and the SML use the same measure of risk.
7. Which one of the following securities is undervalued? Rm = 15%; RF = 5%
| | ai | bi |Expected return |
|Security 1 | 5 | 1.0 | 14% |
|Security 2 | 7 | 1.2 | 16.5% |
|Security 3 | 8 | 0.8 | 14% |
|Security 4 | 4 | 0.7 | 11.5% |
12.
a. Security 1.
b. Security 2.
c. Security 3.
d. Security 4.
8. A change in the correlation coefficient of the returns of two securities in a portfolio causes a change in
a. both the expected return and the risk of the portfolio.
b. only the expected return of the portfolio.
c. the expected return, the covariance, and the risk level of the portfolio.
d. only the risk of the portfolio.
9. One of Markowitz’s main contributions to portfolio theory is
a. Risk is not quantifiable.
b. That risk is a function of credit, liquidity and market factors.
c. That risk is the same for each type of financial asset.
d. His insight about the relative importance of variances and covariances in determining portfolio risk.
10. The Single Index Model can be used to
a. solve the security analysis problem inherent in the Markowitz analysis
b. predict the return on an individual security with virtually no error whatsoever
c. simplify the calculation of the portfolio variance
d. calculate the full variance-covariance matrix more accurately than the Markowitz model
11. According to Markowitz’s mean-variance model, the variance of the portfolio is equal to
a. the weighted average of the individual variances plus the weighted expected returns.
b. The weighted covariances between all unique pairs of securities.
c. The weighted variances plus the weighted covariances of all pairs of securities.
d. The weighted covariances plus the weighted betas of the securities.
12. Markowitz’s original portfolio theory, as formulated by him, leads to
a. the identification of efficient portfolios.
b. the identification of the single optimal portfolio for any investor
c. the identification of the systematic risk of a portfolio.
d. the identification of the optimal portfolio with borrowing and lending.
13. The separation theorem states that
a. systematic risk is separate from unsystematic risk.
b. the investment decision is separate from the financing decision.
c. the individual security risk is separate from portfolio risk.
d. borrowing portfolios are separate from lending portfolios.
14. Choose the portfolio from the following set that is NOT on the efficient frontier.
a. Portfolio A: expected return of 10% and standard deviation of 8%.
b. Portfolio B: expected return of 15% and standard deviation of 14%.
c. Portfolio C: expected return of 38% and standard deviation of 28%.
d. Portfolio D: expected return of 15% and standard deviation of 13%.
Stock X has an expected return of 16% and a standard deviation of 12%. Stock Y has an expected return of 22% and a standard deviation of 14%.
Use this information to answer questions 15 and 16.
15. If the correlation coefficient between X and Y’s return is 0.30, the expected return of an equally-weighted portfolio consisting of X and Y would be (round to no decimal place)
a. 19%
b. 16%
c. less than 16%
d. more than 22%
16. Assume now that the correlation coefficient between stocks X and Y is +1.0. Choose the investment below that represents the minimum risk portfolio.
a. 100% investment in stock Y.
b. 100% investment in stock X.
c. 50% investment in stock X and 50% investment in stock Y.
d. 80% investment in stock Y and 20% investment in stock X.
17. A portfolio that lies below the efficient frontier is best described as?
a. Optimal.
b. Unattainable.
c. Efficient.
d. Inferior.
18. What does the slope of the CML represent?
a. The amount of return expected for bearing the risk of an individual portfolio.
b. The market price of risk for efficient portfolios.
c. The market price of risk for any given security.
d. The expected return on the market portfolio.
19. The SML can be used to analyze the relationship between
a. Required returns and standard deviations for all assets.
b. Required returns and beta for all assets.
c. Required returns and beta for efficient portfolios only.
d. Required returns and standard deviations for individual securities only.
20. With the introduction of the risk-free asset to the Markowitz efficient frontier,
a. the new efficient frontier remains a curve.
b. a large number of portfolios of risky assets are efficient.
c. all investors will choose to do some lending.
d. only one risky portfolio is optimal for every investor regardless of that investor’s utility function.
21. Data for XYZ Corp. and AST Inc. have been calculated for the period 1985-1994 (n – 10). The values are:
|Corporation |Return |Variance |Covariance |
| XYZ | 31.4% | 194.4 | -173.8 |
|AST |23.0% |354.5 |-173.8 |
If the mean return and variance for the Market (S&P) for the period were 18.2% and 161.1 respectively, and the covariance between XYZ and S&P was 22.0, the beta for XYZ would have been:
a. less than zero, negative.
b. between zero and .50.
c. between .50 and 1.00.
d. greater than 1.00.
22. Choose the statement below that is INCORRECT.
a. With the introduction of risk-free borrowing and lending, the old Markowitz efficient frontier is dominated by a new efficient frontier that is a straight line.
b. With the introduction of risk-free borrowing and lending, the new efficient frontier will be a straight line.
c. With the introduction of risk-free borrowing and lending, the new efficient frontier will be a straight line that is lower than the old Markowitz arc representing the efficient frontier.
d. In equilibrium, all risky assets must be in the market portfolio
23. Select the INCORRECT statement.
a. The SML uses beta as the measure of risk.
b. The SML relates expected return and risk for efficient portfolios only.
c. The beta for a stock measures its contribution to the risk of the market portfolio.
d. The larger the beta for a security, the larger its equilibrium expected return.
24. The expected return on the market for the next period is 16%. The risk free rate of return is 6%, and Wilson Products Company has a beta of 1.1. In using this information to estimate the required rate of return for Wilson, the market risk premium is
a. 9.9%
b. 9%
c. 16%
d. none of these.
25. Assume an investor fears a market decline and reduces the holdings of all stocks in her diversified portfolio and purchases money market securities. This investor is primarily trying to reduce
a. Nonsystematic risk.
b. Interest rate risk.
c. Reinvestment rate risk.
d. Systematic risk
26. Under the security market line approach, an investor who owns a stock with a beta of –2.0 would expect the stock’s return to __________ in a market that was expected to decline 10 percent, everything else remaining constant.
a. rise by 20 percent.
b. fall by 20 percent.
c. rise by 2 percent.
d. fall by 2 percent.
27. Assume a truly efficient market where everything is in equilibrium. On a graph showing a SML
a. Any assets above the SML would be considered overvalued
b. Any assets below the SML would be considered undervalued
c. All assets would lie on the SML
d. Most assets would lie on the SML, but some would still be above or below
28. An investor is considering a stock with a beta of 1.0. The expected return on the market is 16%, and the risk-free rate is 5%. The investor has independently estimated the expected return on this stock to be 15.5%, whereas the average expected return over time for this stock has been 17.5%. Which of the following statements is true?
a. The alpha on this stock is +0.5.
b. The alpha on this stock is –0.5.
c. The alpha on this stock 1.5.
d. The alpha on this stock is –1.5.
29. Choose the INCORRECT statement regarding APT.
a. It is based on the law of one price.
b. It has more restrictive assumptions than does the CAPM
c. APT assumes that asset prices are linearly related to a set of indexes
d. The problem with APT is that the factors are not well specified.
30. Beta is
a. an absolute measure of systematic risk
b. a measure of total risk
c. a relative measure of systematic risk’
d. a measure of nonsystematic risk
31. Multi-index models
a. are used less than single index models because they don’t perform better ex ante
b. are used more than single index models because they perform better ex ante
c. are used less than single index models because they do not perform as well ex post
d. perform better than single index models either ex post or ex ante
The returns, variances, and covariances of annual returns for Becton-Dickinson
(BDX) and Procter & Gamble (PG) have been calculated for the period 1985-1994. The market (S&P) return was 18.2% for this period, with a variance of 161.1.
|(n = 10). Corporation |Return |Variance |Covariance |
| BDX |19.3% | 872.9 | -78.3 |
|PG |20.2% |512.5 |-78.3 |
Use the above information to answer questions 37 and 38.
32. For a portfolio made up from these two stocks with 70% in PG and 30% in BDX, the mean return over the 10-year period would have been:
a. less than the Market return
b. between 18.2% and 19.3%
c. between 19.3% and 20.2%
d. greater than 20.2%
33. The covariance of PG with the market is 156.4. The beta for PG is (rounding off):
a. .97
b. .49
c. .15
d. answer cannot be determined with the information given
34. Select the INCORRECT statement from among the following:
a. The risk of a portfolio of two securities, as measured by the standard deviation, would consist of two terms.
b. The expected return on a portfolio is always a weighted average of the expected returns of the individual assets in the portfolio.
c. The risk equation for a portfolio of four securities, as measured by the standard deviation, would consist of 12 covariances and four variances.
d. Combining two securities with perfect negative correlation could eliminate risk altogether.
35. In the Markowitz model, portfolio risk
a. is equal to the sum of the standard deviations of each of the securities in the portfolio.
b. is equal to the product of the standard deviations of each of the securities in the portfolio.
c. is not equal to the weighted average of the risk of the individual securities in the portfolio.
d. does not depend on the relative weights of the securities in the portfolio.
Consider the following information:
Becton-Dickinson (BDX), Dow-Jones, Inc. (DJ), Exxon (XON), and Pepsico (PEP) had the following results over the period 1985-1994:
|Corporation | Mean Return | St. Dev. |Alpha | Beta | R2 |
| BDX | 19.28% | 29.54% | -3.70 |1.264 |.295 |
|DJ |22.78 |29.04 |17.03 |.316 |.019 |
|XON |22.99 |19.25 |4.98 |.990 |.426 |
|PEP |28.39 |23.97 |20.24 |.443 |.055 |
The return over the period for the S&P 500 was 18.19%, with a standard deviation of 12.69%.
Use the above information to answer the following question.
36. In considering adding one of these stocks to a portfolio to decrease the beta of the portfolio, the best choice would be:
a. BDX
b. DJ
c. XON
d. PEP
Listed below is some basic information for Intel (INTS) and Outtel (ONTS) stock:
Use the above information to answer the following question.
Beta—Intel = 1.0
Beta—Outtel = 2.0
37. The beta for a portfolio of 30% INTS and 70% ONTS is nearest to
a. zero
b. .50
c. 1.00
d. 1.80
38. Select the INCORRECT statement from the following regarding the Markowitz model:
a. As the number of securities held in a portfolio increases, the importance of each individual security’s risk also decreases.
b. As the number of securities held in a portfolio increases, the importance of the covariance relationships decreases.
c. In a large portfolio, portfolio risk will consist almost entirely of each security’s own risk contribution to the total portfolio risk.
d. In a large portfolio, the variance term can be driven almost to zero or at least a quite low amount.
39. The required rate of return is a
a. Maximum expected return demanded by investors
b. Realized minimum return demanded by investors
c. Minimum expected return demanded by investors
d. Maximum return likely to be realized by investors
40. Select the INCORRECT statement regarding the CML:
a. the CML is an equilibrium relationship for efficient portfolios only
b. the CML represents the risk-return tradeoff in equilibrium for efficient portfolios
c. the intercept of the CML is the reward per unit of time available to investors for deferring consumption
d. beta is the measure of risk which determines a portfolio’s equilibrium return.
41. Select the INCORRECT statement.
a. The SML uses standard deviation as the measure of risk.
b. The SML is a relationship between expected return and risk for efficient portfolios, inefficient portfolios and individual stocks.
c. The beta for a stock measures its contribution to the risk of the market portfolio.
d. The larger the beta for a security, the larger its equilibrium expected return because of the increased risk.
42. The expected return on the market for next period is 16%. The risk free rate of return is 6%, and Wilson Products Company has a beta that is 80% of the beta for the market as a whole. The required rate of return for this company is
a. 14%
b. 16%
c. 10%
d. none of the above
43. The expected return on the market for next period is 16%. The risk free rate of return is 7%, and Wilson Products Company has a beta of 1.0. Wilson’s risk premium is
a. 7%
b. 9.9%
c. 9%
d. none of the above
44. The purpose of the Sharpe Single Index Model is
a. to prove that an individual security's return is linearly related to the market's return
b. to derive the Markowitz efficient frontier in a less-complicated manner, simplifying the calculations
c. to allow for borrowing and lending and therefore to improve on the efficient frontier concept
d. to calculate a more exact efficient frontier, representing a mathematical improvement on the Markowitz calculations
45. The CAPM leads to all of the following conclusions except:
a. beta is the most important measure of stock risk.
b. investors are compensated for taking total risk, which consists of systematic risk plus unsystematic risk.
c. a well-diversified portfolio has mostly systematic risk.
d. there is an upward-sloping tradeoff between required return and beta.
46. The expected return on a zero-beta security is:
a. zero.
b. a negative rate of return.
c. the expected return on the market index.
d. the risk-free rate of return.
47. The Capital Asset Pricing Model is said to be robust. What does this mean?
a) no single investor can affect the price of a stock through his or her decisions
b) capital markets are in equilibrium
c) there are no transaction costs
d) If a, b, or c are relaxed as assumptions, the CAPM is still a good description of reality
48. Many tests of the CAPM have been made. Which of the following represents a reasonable consensus of the empirical results?
a) the SML appears not to be linear
b) the intercept term is generally found to be higher than RF
c) the slope of the CAPM is steeper than posited by the theory
d) investors are rewarded for assuming systematic and unsystematic risk
49. Many tests have been made about the stability of betas. What can we conclude?
a) betas for individual securities and large portfolios are both unstable
b) betas for individual securities are unstable
c) betas for individual securities and large portfolios are both stable
d) betas for large portfolios are unstable
50. With regard to the market portfolio
a) it is readily and precisely observable
b) it should include all risky assets
c) it is the lowest point of tangency between RF and the efficient frontier
d) none of the above is true
PRACTICE QUESTIONS Covers>> Portfolio Management, Performance Evaluation from Chapters 21-22
1. With regard to the reward-to-variability ratio (RVAR):
a. RVAR is an absolute measure of performance.
b. RVAR measures the slope of the line from RF to the portfolio being evaluated.
c. The closer the RVAR to 0.0, the better is the performance.
d. RVAR does not take into account how well diversified a portfolio was.
2. Poorly diversified portfolios would be ranked
a. higher on the basis of the RVAR measure than by the RVOL measure.
b. higher on the basis of the RVOL measure than by the RVAR measure.
c. similarly by both the RVAR and RVOL measures.
d. higher by the RVAR measure than by the differential return (Jensen) measure.
3. Under Jensen’s differential return approach to portfolio evaluation, superior market timing is exhibited by a
a. statistically significant positive alpha.
b. statistically significant negative alpha.
c. zero alpha.
d. low positive alpha.
4. The degree of diversification of a portfolio is measured by
a. calculating the correlation coefficient between a stock’s returns with those of the market.
b. calculating the association between a portfolio's return and the market's return based on the square of the correlation coefficient.
c. computing the correlation coefficient between a portfolio's return and that of the market.
d. dividing the average return of a portfolio by its beta.
5. With regard to the Sharpe and Treynor measures of performance, which of the following statements is CORRECT?
a. RVAR does not take into account how well diversified a portfolio was during the measurement period.
b. RVAR implies that total risk is the proper measure to use.
c. If an investor thinks it is correct to use systematic risk, RVAR is appropriate.
d. Both measures will always provide the same rankings of portfolios.
6. AIMR’s presentation standards are
a. a set of guiding ethical principles.
b. the maximum standards for presenting performance.
c. a set of recommendations only.
d. a guarantee of complete comparability among investment managers.
7. You are asked to calculate a rate of return over a certain time horizon in order to evaluate the portfolio manager. You should use a
a. dollar-weighted return.
b. time-weighted return.
c. client-weighted return.
d. internal rate of return.
8. The Sharpe, Treynor, and Jensen measures will agree on portfolio rankings if
a. the portfolios are completely diversified.
b. Only ex post data are used.
c. Quarterly data are used in all three.
d. Each portfolio consists of only one security.
9. Portfolio performance is measured relative to a market portfolio. If the measurement of the market portfolio is in error, then the SML and the portfolio measurements will be in error also. This problem is referred to as ______ error.
a. standard
b. benchmark
c. Roll
d. Anticipated
10. Which one of the following statements is CORRECT?
RVAR: Reward-to-variability measure
RVOL: Reward-to-volatility measure
a. RVOL is based on total risk while RVAR is based on systematic risk
b. RVAR is based on total risk while RVOL is based on systematic risk
c. RVAR is based on unsystematic risk while RVOL is based on systematic risk
d. RVOL is based on systematic risk while RVAR is based on unsystematic risk
11. Which is the better measure to estimate the performance of a portfolio: The Sharpe Index or the Treynor Index?
a. The Sharpe Index
b. The Treynor Index.
c. Both are equally good.
d. Not enough information is provided to answer this question.
12. This measure indicates the percentage of the variance in the portfolio’s returns that is explained by the market’s returns.
a. The standard deviation.
b. The coefficient of determination.
c. The beta.
d. The alpha.
13. According to Jensen’s differential return measure, what is alpha?
a. The intercept of the SML line.
b. The intercept of CML line.
c. A means of identifying superior or inferior portfolio performance.
d. The actual excess return on a portfolio during one period.
14. The alpha for a particular fund for a particular period
a. can be either zero or positive.
b. can be either zero or negative.
c. must always be zero.
d. can be positive or negative.
15. Which of the following statements about the composite measures of portfolio evaluation is INCORRECT?
a. Jensen’s differential return measure is based on the CAPM.
b. Jensen’s alpha does not evaluate the ability of the portfolio manager to diversify.
c. In the case of well-diversified portfolios, all three measures will provide similar results.
d. The RVAR, RVOL and Jensen’s Alphas, all test for the significance of excess returns.
16. Performance attribution
a. seeks to determine before the fact why success or failure occurred.
b. is typically a bottom-up approach.
c. does not require the identification of a benchmark of performance.
d. often begins with the policy statement that guides the management of a portfolio.
Given the following information:
| | SD | Beta | ( | R2 |
|Fund 1 | 1.97 | 1.0 | 1.3 | .85 |
|Fund 2 |2.94 |.8 |.6* |.80 |
|Fund 3 |1.82 |1.2 |-3.5 |.90 |
|Fund 4 |4.70 |1.1 |4.2 |.65 |
| | | | | |
*significant at 5% level
Use the above information to answer the following question.
17. Which of these four funds’ returns are best explained by the market’s returns?
a. Fund 1
b. Fund 2
c. Fund 3
d. Fund 4
Use the above information to answer the following 4 questions.
18. Which of these four funds had the largest market risk?
a. Fund 1
b. Fund 2
c. Fund 3
d. Fund 4
19. Which of these four funds had the largest total risk?
a. Fund 4
b. Fund 3
c. Fund 1
d. More information is needed to answer this question.
20. Which of these funds had the highest performance as determined by Jensen’s performance measure?
a. Fund 1
b. Fund 2
c. Fund 3
d. Fund 4
21. Which of these funds was least well diversified?
a. Fund 1
b. Fund 2
c. Fund 3
d. Fund 4
22. In the portfolio management process, which of the following is step #1?
a. monitoring of market conditions
b. formulation of appropriate investment strategies
c. identify and evaluate an investor’s objectives, constraints, and preferences
d. adjust the portfolio as appropriate
23. Which of the following is not a characteristic associated with institutional investors?
a. institutions can be defined financially by their assets and goals
b. many institutions are free of tax considerations under normal circumstances
c. institutions use quantitative concepts to define risk
d. institutions are subject to legal and regulatory constraints
24. Which of the following describes the process of forming expectations according to the portfolio management process?
a. form micro or individual asset expectations
b. form micro expectations, and then macro or capital market expectations
c. form macro expectations first, and then micro expectations
d. none of the above describes the process as outlined
25. Which of the following is not a constraint and preference as described in the portfolio management process?
a. time
b. risk
c. liquidity needs
d legal and regulatory requirements
26. With regard to asset allocation, choose the INCORRECT statement:
a. the asset allocation decision involves deciding the percentage of investable funds to be placed in stocks, bonds, and cash equivalents
b. differences in asset allocation will be the key factor over time causing differences in portfolio performance
c. it is the second most important decision made by investors in the portfolio management process, security selection being the most important
d. how asset allocation decisions are made by investors remains a subject that is not fully understood.
27. Which of the following is the most important determinant of a portfolio’s performance?
a. Hedging
b. Market timing
c. Performance measurement
d. Asset allocation
28. Regarding the composite measures of portfolio evaluation:
a. Jensen’s differential return measure is based on the CAPM.
b. Jensen’s alpha evaluates the ability of the portfolio manager to diversify.
c. In the case of non-diversified portfolios, all three measures will provide similar results.
d. All three measures test for the significance of excess returns.
29. The degree of diversification of a portfolio is measured by
a. calculating the correlation coefficient between a stock’s returns with those of the market.
b. calculating the coefficient of determination.
c. computing the beta of a portfolio.
d. dividing the average return of a portfolio by its beta.
30. Performance attribution
a. seeks to determine before the fact why success or failure occurred.
b. is typically a bottom-up approach.
c. does not require the identification of a benchmark of performance.
d. often begins with the policy statement that guides the management of a portfolio.
31. Before actually investing money in financial assets, an endowment fund should first
a. establish asset allocation guidelines
b. decide between active or passive management
c. establish its return and risk objectives
d. decide how diversified the portfolio should be
32. Following are the average total returns for three portfolios over the period 1990-1999. How would you classify them from best to worst?
Portfolio 1 7%
Portfolio 2 18%
Portfolio 3 25%
Risk-free rate 9%
a. 3, 2, 1
b. 3, 2, risk-free rate, 1
c. 3, 2, portfolio 1 was not acceptable because return was below the risk-free rate
d. not enough information is provided to answer this question
33. Determine the performance of a portfolio, according to Jensen's measure, when the portfolio had an actual return of 13%, and the risk-free rate = 6%, the market return = 12%, and the portfolio had a beta of 1.2
a. inferior
b. superior
c. same as that of the market
d. not enough information is provided to answer this question
34. Which of the following, in the investment policy statement, is not a constraint or preference?
a. liquidity
b. risk
c. time horizon
d. unique circumstances
35. Assume you are advising a successful investor whose portfolio has performed extremely well. You wish to measure the performance of this portfolio. Which is the better measure to estimate performance in this situation?
a. RVAR
b. RVOL
c. Both are equally good, both in theory and in practice
d. Not enough information is provided to answer
36. Which one of the following statements is INCORRECT?
a. RVAR is based on total risk while RVOL is based on systematic risk
b. RVAR is based on systematic risk while RVOL is based on total risk
c. RVAR is used in Sharpe's measure while RVOL is used in Treynor's measure
d. RVOL is related to the SML while RVAR is related to CML
37. The alpha for a particular fund for a particular period
a. can be either negative or positive but not zero.
b. can be either positive or zero but not negative.
c. Could be zero, negative or positive
d. Must be zero
38. The degree of diversification of a portfolio is measured by
a. calculating the correlation coefficient between a stock’s returns with those of the m market.
b. calculating the coefficient of determination.
c. computing the beta of a portfolio.
d. dividing the average return of a portfolio by its beta.
39. AIMR’s presentation standards require:
a. cash accounting.
b. inclusion of terminated portfolios.
c. a 10-year performance record as the minimum period to be presented.
d. exclusion of cash and cash equivalents.
40. Which of the following statements about the composite measures of portfolio evaluation is CORRECT?
a. Jensen’s differential return measure is based on the Capital Market Line.
b. Jensen’s alpha does not evaluate the ability of the portfolio manager to diversify.
c. In the case of well-diversified portfolios, all three measures will provide similar results.
d. The RVAR, RVOL and Jensen’s Alpha all test for the significance of excess returns.
41. The investment policy statement includes
a. Objectives only.
b. Objectives and constraints.
c. Return objectives, risk posture, and constraints.
d. Objectives, constraints and preferences.
42. The first step an endowment fund should take before investing is to:
a. establish investment objectives
b. develop a list of investment managers with superior records to interview
c. establish asset allocation guidelines
d. decide between active or passive management
43. Both strategic and tactical approaches to asset allocation:
a. focus on the changing reward-to-variability ratio
b. seek to capture market inefficiencies
c. require continuing analysis of market circumstances
d. deemphasize consideration of changes in investor risk tolerance
44. Which of the following is not a characteristic associated with institutional
investors?
a. institutions can be defined financially by their assets and goals
b. many institutions are free of tax considerations under normal circumstances
c. institutions use quantitative concepts to define risk
d. institutions are subject to legal and regulatory constraints
45. Which of the following describes the process of forming expectations according to the portfolio management process?
a. form micro or individual asset expectations
b. form micro expectations, and then macro or capital market expectations
c. form macro expectations first, and then micro expectations
d. none of the above describes the process as outlined
46. Which one of the following is not a step in the portfolio management process?
a. Establishing capital market expectations
b. Performance measurement
c. Establishing investment philosophy
d. Security selection
47. Select the INCORRECT statement about Jensen's differential return measure
a. It is based on the CAPM
b. It can be estimated by a regression equation
c. The slope of the equation is used to identify inferior or superior performance
d. What matters is the highest alpha, consistent with statistical significance
48. Which of the following is NOT an obvious factor to consider in evaluating portfolio performance?
a. Differences in investment manager philosophy
b. Differences in risk level
c. Differences in time periods
d. Appropriate benchmarks
49. The percentage of portfolio return attributable to asset allocation is about:
a. 10%
b. 20%
c. 75%
d. 90%
50. A clearly written investment policy statement is critical for:
a. mutual funds
b. individuals
c. pensions funds
d. all investors
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