Question 1 the most important determinant of an investments

Question

Question 1. The most important determinant of an investment's portfolio risk is which of the following?

• The variance of the investment's return distribution
• The standard deviation of the investment's return distribution
• The size of the investment
• The correlation of the investment's returns with the returns of other investments in the portfolio
• The risk-free rate of return

 

Question 2. Which of the following statements about the capital asset pricing model (CAPM), which is the "father" of the security market line (SML), is(are) most correct?

• All of the above responses are correct.
• In general, its inputs are difficult to estimate, particularly E(g).
• Despite its deficiencies, it provides investors with a rational way of thinking about required rates of return.
• It has not been empirically verified.
• The CAPM is based on a restrictive set of assumptions.

 

Question 3. What is the present value of a $100 lump sum to be received in five years if the opportunity cost rate is 10 percent?

• $75.65
• $65.91
• $71.33
• $62.09
• $68.75

 

Question 4. Which of the following statements about an investment's financial risk is false?

• Corporate risk generally is most relevant for not-for-profit firms.
• Even though an investment may have high stand-alone risk, portfolio effects often drive its corporate risk to zero.
• Stand-alone risk is relevant only for investments held in isolation.
• The portfolio risk of an individual investment is defined as the contribution of the investment to the overall riskiness of the portfolio.
• Market risk generally is most relevant for investor-owned firms.

 

Question 5. Which of the following statements about financial risk is false?

• Risk requires the possibility of more than one return.
• In financial analysis, investors are assumed to be risk averse.
• The higher the standard deviation, the lower the stand-alone risk.
• Risk requires the possibility of at least one return less favorable than the expected return.
• Risk is one of the determinants of the opportunity cost rate.

 

Question 6. Which of the following statements about the beta coefficient is false?

• A stock's reported beta coefficient is based on forecasted future volatility.
• A stock's beta coefficient measures its volatility relative to the market portfolio.
• A stock's beta coefficient can theoretically be calculated using the capital asset pricing model.
• Under the capital asset pricing model, a stock with a beta coefficient less than 1.0 would have a required rate of return that is lower than the required rate of return on the market portfolio.
• A stock with a beta coefficient greater than 1.0 is said to be riskier than the market portfolio.

 

Question 7. Oakdale Community Hospital is considering building an ambulatory surgery center. Which of the following opportunity cost rates would be most appropriate for discounting the project's future cash flows?

• The expected rate of return on a municipal bond
• The expected rate of return on the stock of Skilled Healthcare Group, a for-profit company that operates a large number of nursing homes and assisted living centers
• The expected rate of return on a bank CD
• The expected rate of return on Medcath Corporation, a for-profit company that operates a large number of cardiac specialty hospitals
• The expected rate of return on the stock of SurgiCare Corporation, a for-profit company that operates a large number of freestanding ambulatory surgery centers

 

Question 8. Triangle Pediatrics is faced with multiple investment alternatives that pay interest as indicated in answers (a) through (e). If we assume Triangle Pediatrics has $100 to invest today, which alternative will give it the most money at the end of one year?

• 9.9 percent interest, compounded semiannually
• 9.5 percent interest, compounded quarterly
• 9 percent interest, compounded daily
• 9.9 percent interest, compounded monthly
• 10 percent interest, compounded annually

 

Question 9. An investment opportunity promises a stated interest rate of 6 percent with semiannual compounding. Which of the following statements is most correct?

• The effective annual rate is less than 6 percent.
• The effective annual rate is greater than 6 percent.
• The periodic rate is greater than 3 percent.
• The effective annual rate is 6 percent.
• The periodic rate is less than 3 percent.

 

Question 10. Assume a stock's risk and expected rate of return are plotted on a graph where the y-axis is required rate of return and the x-axis is risk. Under which of the following conditions is the stock most likely to be sold (if owned) or not purchased?

• The stock's plot falls at the risk-free rate on the y-axis.
• The stock's plot falls above the security market line.
• The information provided is insufficient to answer the question.
• The stock's plot falls below the security market line.
• The stock's plot falls on the security market line.

 

Question 11. What is the future value of a five-year ordinary annuity with annual payments of $200, evaluated at a 15 percent interest rate?

• $1,067.44
• $1,184.91
• $2,348.76
• $1,348.48
• $1,510.15

 

Question 12. Which of the following statements about opportunity costs is false?

• The opportunity cost rate to be applied to any investment is the rate of return that could be earned on alternative investments of similar risk.
• In general, higher-risk investments should have higher opportunity costs than lower-risk investments.
• The opportunity cost rate typically is applied in discounting situations (as opposed to compounding).
• Say you just inherited $10,000. Because this money cost you nothing, it has an opportunity cost rate of zero.
• Opportunity cost rates are normally obtained by examining the returns on securities investments.

 

Question 13. Which of the following statements is not correct?

• If an investment pays interest compounded annually, the effective, periodic, and stated rates of interest are all the same.
• If interest rates are positive, the future value of a given sum will always be less than its present value.
• A loan repaid in equal periodic amounts is called an amortized loan.
• The present value of a three-year $150 annuity due exceeds the present value of a three-year $150 ordinary annuity.
• The proportion of the payment that goes toward interest on an amortized loan declines over time.

 

Question 14. Which of the following types of risk cannot be eliminated by holding a well-diversified portfolio of investments?

• Answers (a) and (b)
• Portfolio risk
• Market risk
• Diversifiable risk
• Answers (b) and (c)

 

Question 15. Assume the risk free rate is 4 percent, the required rate of return on the market portfolio is 15 percent, and the reported beta for a medical device manufacturer is 1.7. Under the capital asset pricing model, the required rate of return on the stock of the medical device manufacturer is

• 18.7 percent
• 15.0 percent
• 22.7 percent
• 32.3 percent
• 29.5 percent

 

Question 16. As the discount rate applied to a future value lump sum increases, the present value

• decreases
• doubles
• stays the same
• There is not enough information to answer this question.
• increases by some amount

 

Question 17. What is the approximate number of years it would take for an investment to double if the rate of return (interest) is 5 percent?

• 16.6
• 12.2
• 14.4
• 18.8
• 10.0

 

Question 18. Consider the following information on the stock portfolio of the Gainesville City Meter Maid Retirement Fund:

Business Machines, Inc.:
$400,000 investment
Beta coefficient: 1.2

Gold Rush Mining:
$600,000 investment
Beta coefficient: -0.4

Humanity Healthcare:
$1,000,000 investment
Beta coefficient: 1.5

Home Supply Source:
$2,000,000 investment
Beta coefficient: 0.8

Total investment amount: $4,000,000

What is the beta coefficient of this portfolio?

• 1.045
• 0.730
• 0.625
• 0.835
• 0.940

Question 19. Which of the following statements about the riskiness of a two-investment portfolio is most correct?

• If the returns are uncorrelated (correlation coefficient of 0.0), all risk can be eliminated.
• If the returns have a correlation coefficient of +0.7, some, but not all, risk can be eliminated.
• If the returns are perfectly negatively correlated, no risk can be eliminated.
• If the returns are perfectly positively correlated, all risk can be eliminated.
• If the returns have a correlation coefficient of -0.4, all risk can be eliminated.

 

Question 20. You buy a six-year, 8 percent savings certificate for $1,000. If interest is compounded semiannually, what will its value be at maturity?

• $1,766.33
• $1,586.87
• $1,601.03
• $1,467.43
• $1,696.57

 

Question 21.What is the future value of a $100 lump sum invested for five years in an account paying 10 percent interest?

• $171.67
• $159.43
• $161.05
• $165.74
• $156.59

Question 22.Assume you win the lottery and have a choice to receive your winnings in one of two ways. Option 1 is payments of $50,000 per year for each of the next five years. Option 2 is a single payment of $200,000 immediately. Which of the following statements is most correct?

• Option 1 and Option 2 are equivalent.
• The value of Option 1 is greater than the value of Option 2 because the total cash flow is greater.
• Option 1 is preferable to Option 2.
• Option 2 is preferable to Option 1.
• There is not enough information to answer this question.

 

Question 23. If interest rates are positive, the present value of a future lump sum of $100 will be

• equal to [$100 x (1 + opportunity cost rate)]
• equal to $100
• The answer cannot be determined from the information provided.
• less than $100
• greater than $100

 

Question 24. The security market line (SML) provides the relationship between risk and required rate of return. Which of the following statements about the SML is most correct?

• The relevant risk is portfolio risk, which is measured by beta.
• The SML is a graphed line, but it cannot be expressed as an equation.
• The SML is an equation, but it cannot be graphed.
• The relevant risk is mutual risk, which is measured by coefficient of variation.
• The relevant risk is total risk, which is measured by standard deviation.

 

Question 25. Which of the following statements is most correct?

• It is impossible to reduce diversifiable risk.
• Adding similar investments to a portfolio reduces risk more than adding randomly chosen investments does.
• Diversifiable risk is caused by events unique to a single business.
• None of the above statements is correct.
• Portfolio risk is caused by events unique to a single business.

Question 26. Investors will be most likely to purchase a stock if which of the following conditions holds?

• E(Re) = RF
• E(Re) > R(Re)
• E(Re) = R(Re)
• E(Re) < R(Re)
• RPe = 0

 

Question 27. A company is offering perpetual preferred stock (its dividend payments last forever) with a fixed annual dividend of $100. If your required rate of return on this investment is 12 percent, what is the value of each share?

• $813.67
• $962.00
• $1,000.00
• $833.33
• $904.67

 

Question 28. Which of the following statements concerning financial risk is false?

• Generically, financial risk is related to the probability of a return that is less than expected.
• Assume you know for certain that an investment will return negative 10 percent. (In other words, the probability of a negative 10 percent return is 100 percent.) Although the expected return is negative, the investment is riskless.
• If the returns on two investments move in unison (are perfectly positively correlated), combining the two into a portfolio will not affect risk.
• If the returns on two investments move in unison (are perfectly positively correlated), combining the two into a portfolio will lower risk.
• In the real world, it is not possible to create a riskless portfolio because all investment returns, to a greater or lesser extent, move with the overall economy.

 

Question 29. Assume that the risk-free rate is 8 percent, the required rate of return on the market (or an average-risk stock) is 13 percent, and the required rate of return on Acme Healthcare stock is 15 percent. What is the implied beta coefficient of the stock? (Hint: Use the SML equation with beta as the unknown.)

• 1.50
• 0.80
• 1.00
• 1.20
• 1.40

 

Question 30. Which of the following statements about portfolio investment risk is false?

• The beta of a portfolio is a weighted average of the betas of the component investments.
• Standard deviation measures the risk of investments held in portfolios.
• A beta less than 1.0 indicates that the investment has less risk than that of the entire portfolio.
• The beta coefficient measures the risk of investments held in portfolios.
• A beta greater than 1.0 indicates that the investment has greater risk than that of the entire portfolio.