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FIN 311 Study Guide - Midterm Guide: Risk-Free Interest Rate, Risk Premium, Preferred Stock

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pucemouse259
14 Dec 2019
School
University of Arizona
Department
Finance
Course
FIN 311
Professor
Homi Songur

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Document Summary

Expected return = sum of (rate * probability) Stand-alone risk (std dev) = square root( (return - exp. return)^2 * probability) Portfolio expected return = sum of (weight * exp rate of return) Capm (also same as security market line) = ri = rrf + (risk premium * beta) Intrinsic value of stock = p0 = d1/(1+rs)1 + d2/(1+rs)2 + d3/(1+rs)3 + + dn/(1+rs)n. Rs = risk adj. discount rate / req. Discounted dividend constant growth = dn = d0(1 + g)n. Dividend = p0 = d0(1 + g)/(rs - g) = d1/(rs - g) Also for solving stock"s intrinsic value/current stock price. Capital gains yield = (p1 - p0) / p0. Total return = rs = dividend yield + capital gains yield. Corp. value (fcf method, firms total corp value) = vcompany = fcf1/(1 + wacc)1. + fcf2/(1 + wacc)2 ++ fcfn/(1 + wacc)n. Horizon value = fcfn+1 / (wacc - gfcf)

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Related Questions

What is the taxable equivalent yield on a municipal bond with a yield to maturity of 4.5 percent for an investor in the 39 percent marginal tax bracket?

1.76 percent

4.50 percent

7.38 percent

11.54 percent

Rank the following bonds in order from lowest credit risk to highest risk all with the same time to maturity, by their yield to maturity: JM Corporate bond with yield of 12.25 percent, IB Corporate bond with yield of 4.49 percent, TC Corporate bond with yield of 8.76 percent, and B&O Corporate bond with a yield of 5.99 percent.

JM bond, TC bond, B&O bond, IB bond

IB bond, B&O bond, TC bond, JM bond

TC bond, B&O bond, IB bond, JM bond

JM bond, IB bond, B&O bond, TC bond

A 5.75 percent coupon bond with 12 years left to maturity is offered for sale at $978.83. What yield to maturity is the bond offering? (Assume interest payments are paid semi-annually and par value is $1,000.)

3.00 percent

3.09 percent

5.75 percent

6.00 percent

A client in the 28 percent marginal tax bracket is comparing a municipal bond that offers a 3.25 percent yield to maturity and a similar-risk corporate bond that offers a 4.10 percent yield. Which bond will give the client more profit after taxes?

The municipal bond.

The corporate bond.

Both give the client equal profits after taxes.

There is not enough information given to determine answer.

Portfolio Weights An investor owns $15,000 of Adobe Systems stock, $15,500 of Dow Chemical, and $17,000 of Office Depot. What are the portfolio weights of each stock?

Adobe System = 0.3333, Dow Chemical = 0.3333, Office Depot = 0.3333

Adobe System = 0.3158, Dow Chemical = 0.3263, Office Depot = 0.3579

Adobe System = 0.3263, Dow Chemical = 0.3158, Office Depot = 0.3579

Adobe System = 0.2667, Dow Chemical = 0.3333, Office Depot = 0.4000

Portfolio Return Year-to-date, Company O had earned a -7.4 percent return. During the same time period, Company V earned 9.65 percent and Company M earned 2.68 percent. If you have a portfolio made up of 20 percent Company O, 40 percent Company V, and 40 percent Company M, what is your portfolio return?

4.93%

6.41%

3.45%

19.73%

Average Return The past five monthly returns for K and Company are 4.55 percent, 4.72 percent, -.65 percent, -.15 percent, and 9.30 percent. What is the average monthly return?

3.874%

1.614%

1.481%

3.554%

Portfolio Weights If you own 270 shares of Air Line Inc at $18.95, 170 shares of BuyRite at $9.9, and 370 shares of Motor City at $45.95, what are the portfolio weights of each stock?

Air Line = .2700, BuyRite = .1700, MotorCity = .3700

Air Line = .3333, BuyRite = .3333, MotorCity = .3333

Air Line = .3333, BuyRite = .2099, MotorCity = .4568

Air Line = .2150, BuyRite = .0707, MotorCity = .7143

Portfolio Return At the beginning of the month, you owned $6,500 of Company G, $8,900 of Company S, and $2,800 of Company N. The monthly returns for Company G, Company S, and Company N were 8.15 percent, -1.59 percent, and -.14 percent. What is your portfolio return?

2.14%

6.42%

3.29%

2.13%

The standard deviation of the past five monthly returns for PG Company are 2.75 percent, -0.75 percent, 4.15 percent, 6.29 percent, and 3.84 percent. What is the standard deviation?

2.309 percent

2.581 percent

3.256 percent

3.406 percent

Rank the following three stocks by their risk-return relationship, best to worst. Rail Haul has an average return of 10 percent and standard deviation of 19 percent. The average return and standard deviation of Idol Staff are 12 percent and 22 percent; and of Poker-R-Us are 11 percent and 25 percent.

Idol Staff, Rail Haul, Poker-R-Us

Rail Haul, Idol Staff, Poker-R-Us

Idol Staff, Poker-R-Us, Rail Haul

Poker-R-Us, Rail Haul, Idol Staff

Which of the following statements is correct?

A single stock has a lot of diversifiable risk.

A single stock has more market risk than a diversified portfolio of stocks.

Bonds and stocks have a high correlation because they are both financial assets.

None of these statements is correct.

Which of the following statements is correct with regards to diversification?

Diversifying reduces the return of the portfolio.

Diversifying reduces the market risk of the portfolio.

Diversifying reduces the dollar return of the portfolio.

None of these statements is correct.

Expected Return Compute the expected return given these three economic states, their likelihoods, and the potential returns:

Economic State

Probability

Return

Fast Growth

.1

29%

Slow Growth

.8

14%

Recession

.1

-29%

14.0%

14.3%

11.2%

17.0%

Risk Premium If the annual return on the S&P 500 Index was 14.00 percent. The annual T-bill yield during the same period was 6.50 percent. What was the market risk premium during that year?

20.50%

14.00%

7.50%

6.50%

CAPM Required Return A company has a beta of .69. If the market return is expected to be 13.9 percent and the risk-free rate is 5.95 percent, what is the company's required return?

11.44%

15.54%

17.39%

9.59%

Portfolio Beta You have a portfolio with a beta of .94. What will be the new portfolio beta if you keep 40 percent of your money in the old portfolio and 60 percent in a stock with a beta of 1.54?

1.24

1.00

1.30

2.48

Under/Over Valued Stock A manager believes his firm will earn a 17.8 percent return next year. His firm has a beta of 1.68, the expected return on the market is 15.8 percent, and the risk-free rate is 5.8 percent. Compute the return the firm should earn given its level of risk and determine whether the manager is saying the firm is under-valued or over-valued.

22.6%, under-valued

27.544%, under-valued

27.544%, over-valued

22.6%, over-valued

What is the taxable equivalent yield on a municipal bond with a yield to maturity of 4.5 percent for an investor in the 39 percent marginal tax bracket?

1.76 percent

4.50 percent

7.38 percent

11.54 percent

Rank the following bonds in order from lowest credit risk to highest risk all with the same time to maturity, by their yield to maturity: JM Corporate bond with yield of 12.25 percent, IB Corporate bond with yield of 4.49 percent, TC Corporate bond with yield of 8.76 percent, and B&O Corporate bond with a yield of 5.99 percent.

JM bond, TC bond, B&O bond, IB bond

IB bond, B&O bond, TC bond, JM bond

TC bond, B&O bond, IB bond, JM bond

JM bond, IB bond, B&O bond, TC bond

A 5.75 percent coupon bond with 12 years left to maturity is offered for sale at $978.83. What yield to maturity is the bond offering? (Assume interest payments are paid semi-annually and par value is $1,000.)

3.00 percent

3.09 percent

5.75 percent

6.00 percent

A client in the 28 percent marginal tax bracket is comparing a municipal bond that offers a 3.25 percent yield to maturity and a similar-risk corporate bond that offers a 4.10 percent yield. Which bond will give the client more profit after taxes?

The municipal bond.

The corporate bond.

Both give the client equal profits after taxes.

There is not enough information given to determine answer.

Portfolio Weights An investor owns $15,000 of Adobe Systems stock, $15,500 of Dow Chemical, and $17,000 of Office Depot. What are the portfolio weights of each stock?

Adobe System = 0.3333, Dow Chemical = 0.3333, Office Depot = 0.3333

Adobe System = 0.3158, Dow Chemical = 0.3263, Office Depot = 0.3579

Adobe System = 0.3263, Dow Chemical = 0.3158, Office Depot = 0.3579

Adobe System = 0.2667, Dow Chemical = 0.3333, Office Depot = 0.4000

Portfolio Return Year-to-date, Company O had earned a -7.4 percent return. During the same time period, Company V earned 9.65 percent and Company M earned 2.68 percent. If you have a portfolio made up of 20 percent Company O, 40 percent Company V, and 40 percent Company M, what is your portfolio return?

4.93%

6.41%

3.45%

19.73%

Average Return The past five monthly returns for K and Company are 4.55 percent, 4.72 percent, -.65 percent, -.15 percent, and 9.30 percent. What is the average monthly return?

3.874%

1.614%

1.481%

3.554%

Portfolio Weights If you own 270 shares of Air Line Inc at $18.95, 170 shares of BuyRite at $9.9, and 370 shares of Motor City at $45.95, what are the portfolio weights of each stock?

Air Line = .2700, BuyRite = .1700, MotorCity = .3700

Air Line = .3333, BuyRite = .3333, MotorCity = .3333

Air Line = .3333, BuyRite = .2099, MotorCity = .4568

Air Line = .2150, BuyRite = .0707, MotorCity = .7143

Portfolio Return At the beginning of the month, you owned $6,500 of Company G, $8,900 of Company S, and $2,800 of Company N. The monthly returns for Company G, Company S, and Company N were 8.15 percent, -1.59 percent, and -.14 percent. What is your portfolio return?

2.14%

6.42%

3.29%

2.13%

The standard deviation of the past five monthly returns for PG Company are 2.75 percent, -0.75 percent, 4.15 percent, 6.29 percent, and 3.84 percent. What is the standard deviation?

2.309 percent

2.581 percent

3.256 percent

3.406 percent

Rank the following three stocks by their risk-return relationship, best to worst. Rail Haul has an average return of 10 percent and standard deviation of 19 percent. The average return and standard deviation of Idol Staff are 12 percent and 22 percent; and of Poker-R-Us are 11 percent and 25 percent.

Idol Staff, Rail Haul, Poker-R-Us

Rail Haul, Idol Staff, Poker-R-Us

Idol Staff, Poker-R-Us, Rail Haul

Poker-R-Us, Rail Haul, Idol Staff

Which of the following statements is correct?

A single stock has a lot of diversifiable risk.

A single stock has more market risk than a diversified portfolio of stocks.

Bonds and stocks have a high correlation because they are both financial assets.

None of these statements is correct.

Which of the following statements is correct with regards to diversification?

Diversifying reduces the return of the portfolio.

Diversifying reduces the market risk of the portfolio.

Diversifying reduces the dollar return of the portfolio.

None of these statements is correct.

Expected Return Compute the expected return given these three economic states, their likelihoods, and the potential returns:

Economic State

Probability

Return

Fast Growth

.1

29%

Slow Growth

.8

14%

Recession

.1

-29%

14.0%

14.3%

11.2%

17.0%

Risk Premium If the annual return on the S&P 500 Index was 14.00 percent. The annual T-bill yield during the same period was 6.50 percent. What was the market risk premium during that year?

20.50%

14.00%

7.50%

6.50%

CAPM Required Return A company has a beta of .69. If the market return is expected to be 13.9 percent and the risk-free rate is 5.95 percent, what is the company's required return?

11.44%

15.54%

17.39%

9.59%

Portfolio Beta You have a portfolio with a beta of .94. What will be the new portfolio beta if you keep 40 percent of your money in the old portfolio and 60 percent in a stock with a beta of 1.54?

1.24

1.00

1.30

2.48

Under/Over Valued Stock A manager believes his firm will earn a 17.8 percent return next year. His firm has a beta of 1.68, the expected return on the market is 15.8 percent, and the risk-free rate is 5.8 percent. Compute the return the firm should earn given its level of risk and determine whether the manager is saying the firm is under-valued or over-valued.

22.6%, under-valued

27.544%, under-valued

27.544%, over-valued

22.6%, over-valued

What is the taxable equivalent yield on a municipal bond with a yield to maturity of 4.5 percent for an investor in the 39 percent marginal tax bracket?

1.76 percent

4.50 percent

7.38 percent

11.54 percent

Rank the following bonds in order from lowest credit risk to highest risk all with the same time to maturity, by their yield to maturity: JM Corporate bond with yield of 12.25 percent, IB Corporate bond with yield of 4.49 percent, TC Corporate bond with yield of 8.76 percent, and B&O Corporate bond with a yield of 5.99 percent.

JM bond, TC bond, B&O bond, IB bond

IB bond, B&O bond, TC bond, JM bond

TC bond, B&O bond, IB bond, JM bond

JM bond, IB bond, B&O bond, TC bond

A 5.75 percent coupon bond with 12 years left to maturity is offered for sale at $978.83. What yield to maturity is the bond offering? (Assume interest payments are paid semi-annually and par value is $1,000.)

3.00 percent

3.09 percent

5.75 percent

6.00 percent

A client in the 28 percent marginal tax bracket is comparing a municipal bond that offers a 3.25 percent yield to maturity and a similar-risk corporate bond that offers a 4.10 percent yield. Which bond will give the client more profit after taxes?

The municipal bond.

The corporate bond.

Both give the client equal profits after taxes.

There is not enough information given to determine answer.

Portfolio Weights An investor owns $15,000 of Adobe Systems stock, $15,500 of Dow Chemical, and $17,000 of Office Depot. What are the portfolio weights of each stock?

Adobe System = 0.3333, Dow Chemical = 0.3333, Office Depot = 0.3333

Adobe System = 0.3158, Dow Chemical = 0.3263, Office Depot = 0.3579

Adobe System = 0.3263, Dow Chemical = 0.3158, Office Depot = 0.3579

Adobe System = 0.2667, Dow Chemical = 0.3333, Office Depot = 0.4000

Portfolio Return Year-to-date, Company O had earned a -7.4 percent return. During the same time period, Company V earned 9.65 percent and Company M earned 2.68 percent. If you have a portfolio made up of 20 percent Company O, 40 percent Company V, and 40 percent Company M, what is your portfolio return?

4.93%

6.41%

3.45%

19.73%

Average Return The past five monthly returns for K and Company are 4.55 percent, 4.72 percent, -.65 percent, -.15 percent, and 9.30 percent. What is the average monthly return?

3.874%

1.614%

1.481%

3.554%

Portfolio Weights If you own 270 shares of Air Line Inc at $18.95, 170 shares of BuyRite at $9.9, and 370 shares of Motor City at $45.95, what are the portfolio weights of each stock?

Air Line = .2700, BuyRite = .1700, MotorCity = .3700

Air Line = .3333, BuyRite = .3333, MotorCity = .3333

Air Line = .3333, BuyRite = .2099, MotorCity = .4568

Air Line = .2150, BuyRite = .0707, MotorCity = .7143

Portfolio Return At the beginning of the month, you owned $6,500 of Company G, $8,900 of Company S, and $2,800 of Company N. The monthly returns for Company G, Company S, and Company N were 8.15 percent, -1.59 percent, and -.14 percent. What is your portfolio return?

2.14%

6.42%

3.29%

2.13%

The standard deviation of the past five monthly returns for PG Company are 2.75 percent, -0.75 percent, 4.15 percent, 6.29 percent, and 3.84 percent. What is the standard deviation?

2.309 percent

2.581 percent

3.256 percent

3.406 percent

Rank the following three stocks by their risk-return relationship, best to worst. Rail Haul has an average return of 10 percent and standard deviation of 19 percent. The average return and standard deviation of Idol Staff are 12 percent and 22 percent; and of Poker-R-Us are 11 percent and 25 percent.

Idol Staff, Rail Haul, Poker-R-Us

Rail Haul, Idol Staff, Poker-R-Us

Idol Staff, Poker-R-Us, Rail Haul

Poker-R-Us, Rail Haul, Idol Staff

Which of the following statements is correct?

A single stock has a lot of diversifiable risk.

A single stock has more market risk than a diversified portfolio of stocks.

Bonds and stocks have a high correlation because they are both financial assets.

None of these statements is correct.

Which of the following statements is correct with regards to diversification?

Diversifying reduces the return of the portfolio.

Diversifying reduces the market risk of the portfolio.

Diversifying reduces the dollar return of the portfolio.

None of these statements is correct.

Expected Return Compute the expected return given these three economic states, their likelihoods, and the potential returns:

Economic State

Probability

Return

Fast Growth

.1

29%

Slow Growth

.8

14%

Recession

.1

-29%

14.0%

14.3%

11.2%

17.0%

Risk Premium If the annual return on the S&P 500 Index was 14.00 percent. The annual T-bill yield during the same period was 6.50 percent. What was the market risk premium during that year?

20.50%

14.00%

7.50%

6.50%

CAPM Required Return A company has a beta of .69. If the market return is expected to be 13.9 percent and the risk-free rate is 5.95 percent, what is the company's required return?

11.44%

15.54%

17.39%

9.59%

Portfolio Beta You have a portfolio with a beta of .94. What will be the new portfolio beta if you keep 40 percent of your money in the old portfolio and 60 percent in a stock with a beta of 1.54?

1.24

1.00

1.30

2.48

Under/Over Valued Stock A manager believes his firm will earn a 17.8 percent return next year. His firm has a beta of 1.68, the expected return on the market is 15.8 percent, and the risk-free rate is 5.8 percent. Compute the return the firm should earn given its level of risk and determine whether the manager is saying the firm is under-valued or over-valued.

22.6%, under-valued

27.544%, under-valued

27.544%, over-valued

22.6%, over-valued

1. Which of the following is true?
The corporation model can be used to value divisions and firms that do not pay dividends.
The discounted dividend model can be used to value divisions and firms that do not pay dividends.
For the discounted dividend model, a firm's weighted average cost of capital is used as the discount rate.
For the corporate valuation model, a firm's cost of equity is used as the discount rate.
Question 2.2. Which of the following is false?
For the constant growth model to hold, a firm's cost of equity needs to be smaller than its constant dividend growth rate (i.e., rs < g).
For the constant growth model to hold, a firm's cost of equity needs to be greater than its constant dividend growth rate (i.e., rs > g).
From the constant growth model, if the constant dividend growth rate is equal to zero, a firm's share price is equal to the constant dividend divided by the cost of equity (i.e., g=0).
If a company's constant dividend growth rate is negative, the formula for the constant growth model cannot be applied.
Question 3.3. From the discussion of a firm's capital budgeting problem in chapter 11, which of the following is false? (Points : 3.5)
The net present value method (NPV) assumes that cash flows are reinvested at the weighted average cost of capital (WACC).
The internal rate of return method (IRR) assumes that cash flows are reinvested at the internal rate of return.
The modified internal rate of return method (MIRR) assumes that cash flows are reinvested at the weighted average cost of cpaital.
For mutually exclusive projects, if there is a conflict between NPV and IRR, the project with the highest IRR is chosen.
The IRR is independent of a firm's weighted average cost of capital.
Question 4.4. Which of the following is true? (
As a firm's dividend payout ratio increases, the firm's WACC decreases.
The WACC only represents the "hurdle rate" for a typical project with average risk. Therefore, the project's WACC should be adjusted to reflect the project's risk.
Firms with riskier projects generally have a lower WACC.
Holding all else constant, an increase in the target debt ratio tends to lower the WACC.
Question 5.5. Which of the following is false?
If interest rates rise, the price of the bond will rise and its YTM (yield to maturity) will fall.
Short-term bond prices are less sensitive than long-term bond prices to interest rate changes.
Companies are not likely to call bonds unless interest rates have declined significantly. Thus, the call provision is valuable to firms but detrimental to long term investors.
On balance, bonds that have a sinking fund are regarded as being safer than those without such a provision.
Question 6.6. Which of the following is not true? (Points : 3.5)
According to SML (security market line), the risk premium on a high-beta stock would increase more than that on a low-beta stock.
If beta < 1.0, the security is less risky than average.
According to the Security Market Line (SML), in general, a company’s expected return will double when its beta doubles.
According to the Security Market Line (SML), if a portfolio of real world stocks has a beta of zero, the required rate of return for the portfolio is equal to the risk-free rate.
Question 7.7. P&G Industries bonds have a maturity of 15 years with a $1,000 face value, have an 8% semiannual coupon, are callable in 10 years at $1,125, and currently sell at a price of $1,105. What is their nominal annual yield to call?
6.87%.
7.37%.
11.05%.
8.32%.
Question 8.8. Which of the following is not the flaw (weakness) of the discounted payback method? (Points : 3.5)
It does not tells us by how much the project should increase shareholder wealth, or by how much a project yields over the cost of capital; it merely tells us when we recover our investment.
It ignores cash flows occurring after the payback period.
It ignores the time value of money, that is, dollars received in different years are all given the same weight.
Question 9.9. Jermey Lin has $52,500 invested a stock with a beta of 0.80 and another $47,500 invested in a stock with a beta of 3.2. If these are the only two investments in his portfolio, what is his portfolio's beta?
1.56.
1.82.
2.00.
1.94
Question 10.10. According to CAPM, if the required rate of the return of Stock A obtained from the security market line (SML) is less than the expected rate of the return of stock A from the capital market transaction, then stock A is
fairly priced.
undervalued.
overvalued.
Question 11.11. Determine the yield-to-call (to nearest 0.1 of a percent) of an LTV bond with a 12 percent coupon, that pays interest annually. The bond can be called in 5 years, has a call premium of $114, and is currently selling for $912.50. The bond has a face value of $1,000.
14.58%.
13.92%.
16.34%.
12.17%.
Question 12.12. Project M costs $1,000, its expected cash inflows are $500 per year for 3 years, and its WACC is 11%. What is the project's NPV? (Points : 3.5)
$259.57.
$221.86.
$195.23.
$257.35.
Question 13.13. Project J costs $1,025, its expected cash inflows are $425 per year for 3 years, and its WACC is 10%. What is the project's IRR?
12.58%.
10.82%.
11.76%.
9.64%.
Question 14.14. Project X costs $6,750, its expected cash inflows are $1250 per year for 10 years, and its WACC is 10%. What is the project's payback?(Note, the regular payback is asked in this question, not the discounted payback.) (Points : 3.5)
5.40 years.
10 years.
4.58 years.
6.12 years.
Question 15.15. Project S costs $800, its expected cash inflows are $350 per year for 3 years, and its WACC is 7%. What is the project's MIRR?
13.97%.
12.04%.
14.93%.
9.15%.
Question 16.16. Project Y costs $650, its expected cash inflows are $500 per year for 5 years, and its WACC is 10%. What is the project's discounted payback?
1.47 years.
1.24 years.
1.62 years.
1.15 years.
1. Which of the following is true?
The corporation model can be used to value divisions and firms that do not pay dividends.
The discounted dividend model can be used to value divisions and firms that do not pay dividends.
For the discounted dividend model, a firm's weighted average cost of capital is used as the discount rate.
For the corporate valuation model, a firm's cost of equity is used as the discount rate.
Question 2.2. Which of the following is false?
For the constant growth model to hold, a firm's cost of equity needs to be smaller than its constant dividend growth rate (i.e., rs < g).
For the constant growth model to hold, a firm's cost of equity needs to be greater than its constant dividend growth rate (i.e., rs > g).
From the constant growth model, if the constant dividend growth rate is equal to zero, a firm's share price is equal to the constant dividend divided by the cost of equity (i.e., g=0).
If a company's constant dividend growth rate is negative, the formula for the constant growth model cannot be applied.
Question 3.3. From the discussion of a firm's capital budgeting problem in chapter 11, which of the following is false?
The net present value method (NPV) assumes that cash flows are reinvested at the weighted average cost of capital (WACC).
The internal rate of return method (IRR) assumes that cash flows are reinvested at the internal rate of return.
The modified internal rate of return method (MIRR) assumes that cash flows are reinvested at the weighted average cost of cpaital.
For mutually exclusive projects, if there is a conflict between NPV and IRR, the project with the highest IRR is chosen.
The IRR is independent of a firm's weighted average cost of capital.
Question 4.4. Which of the following is true? (Points : 3.5)
As a firm's dividend payout ratio increases, the firm's WACC decreases.
The WACC only represents the "hurdle rate" for a typical project with average risk. Therefore, the project's WACC should be adjusted to reflect the project's risk.
Firms with riskier projects generally have a lower WACC.
Holding all else constant, an increase in the target debt ratio tends to lower the WACC.
Question 5.5. Which of the following is false? (Points : 3.5)
If interest rates rise, the price of the bond will rise and its YTM (yield to maturity) will fall.
Short-term bond prices are less sensitive than long-term bond prices to interest rate changes.
Companies are not likely to call bonds unless interest rates have declined significantly. Thus, the call provision is valuable to firms but detrimental to long term investors.
On balance, bonds that have a sinking fund are regarded as being safer than those without such a provision.
Question 6.6. Which of the following is not true? (Points : 3.5)
According to SML (security market line), the risk premium on a high-beta stock would increase more than that on a low-beta stock.
If beta < 1.0, the security is less risky than average.
According to the Security Market Line (SML), in general, a company’s expected return will double when its beta doubles.
According to the Security Market Line (SML), if a portfolio of real world stocks has a beta of zero, the required rate of return for the portfolio is equal to the risk-free rate.
Question 7.7. P&G Industries bonds have a maturity of 15 years with a $1,000 face value, have an 8% semiannual coupon, are callable in 10 years at $1,125, and currently sell at a price of $1,105. What is their nominal annual yield to call? (Points : 3.5)
6.87%.
7.37%.
11.05%.
8.32%.
Question 8.8. Which of the following is not the flaw (weakness) of the discounted payback method? (Points : 3.5)
It does not tells us by how much the project should increase shareholder wealth, or by how much a project yields over the cost of capital; it merely tells us when we recover our investment.
It ignores cash flows occurring after the payback period.
It ignores the time value of money, that is, dollars received in different years are all given the same weight.
Question 9.9. Jermey Lin has $52,500 invested a stock with a beta of 0.80 and another $47,500 invested in a stock with a beta of 3.2. If these are the only two investments in his portfolio, what is his portfolio's beta? (Points : 3.5)
1.56.
1.82.
2.00.
1.94
Question 10.10. According to CAPM, if the required rate of the return of Stock A obtained from the security market line (SML) is less than the expected rate of the return of stock A from the capital market transaction, then stock A is (
fairly priced.
undervalued.
overvalued.
Question 11.11. Determine the yield-to-call (to nearest 0.1 of a percent) of an LTV bond with a 12 percent coupon, that pays interest annually. The bond can be called in 5 years, has a call premium of $114, and is currently selling for $912.50. The bond has a face value of $1,000. (Points : 3.5)
14.58%.
13.92%.
16.34%.
12.17%.
Question 12.12. Project M costs $1,000, its expected cash inflows are $500 per year for 3 years, and its WACC is 11%. What is the project's NPV?
$259.57.
$221.86.
$195.23.
$257.35.
Question 13.13. Project J costs $1,025, its expected cash inflows are $425 per year for 3 years, and its WACC is 10%. What is the project's IRR? (
12.58%.
10.82%.
11.76%.
9.64%.
Question 14.14. Project X costs $6,750, its expected cash inflows are $1250 per year for 10 years, and its WACC is 10%. What is the project's payback?(Note, the regular payback is asked in this question, not the discounted payback.) (Points : 3.5)
5.40 years.
10 years.
4.58 years.
6.12 years.
Question 15.15. Project S costs $800, its expected cash inflows are $350 per year for 3 years, and its WACC is 7%. What is the project's MIRR? (
13.97%.
12.04%.
14.93%.
9.15%.
Question 16.16. Project Y costs $650, its expected cash inflows are $500 per year for 5 years, and its WACC is 10%. What is the project's discounted payback?
1.47 years.
1.24 years.
1.62 years.
1.15 years.