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1.

If a bond is callable, this means: Student Response 1. the issuing company can require the bondholder to sell the bonds back to the company prior to maturity. 2. the bondholder may sell the bond back to the company prior to maturity at her option. 3. the issuing company may extend the maturity date. 4. the bondholder can convert the bond into the issuing company's stock at any time at any time prior to maturity. Score:
2.

Value 100%

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1/1

One of the advantages of a convertible is downside protection. This means that the: Student Response 1. bond price will be fairly stable irrespective of changes in the interest rate. 2. price of the bond will always be at Value 0% Correct Answer Feedback

least 90 per cent of its market price. 3. convertible bond's price will not fall below the bond's investment value. 4. price of the bond will not decline below its par value. Score:
3.

0/1

Treasury bills and bonds are both typically used as a proxy for the short-term riskless rate. Student Response 1. True 2. False Score:
4.

Value 0%

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0/1

Which of the following bonds would you expect to have the lowest price volatility? Student Response 1. 4%, 10 year bond 2. 8%, 20 year bond 3. 4%, 20 year bond 4. 8%, 10 year 100% bond Score:
5.

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1/1

When interest rates decrease: Student Response 1. bond prices fall. 2. interest rates of existing bonds are raised. 3. prices of newly issued bonds are lowered. 4. bond prices rise. 100% Score:
6.

Value

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1/1

The lower the discount rate used in bond valuation, the higher the bond's intrinsic value. Student Response 1. True 2. False Score:
7.

Value 100%

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1/1

If bond investors do not reinvest the coupons received during the life of the bond, then the: Student Response 1. the calculated YTM will exceed the realized yield. 2. the calculated YTM will be less than the realized yield. 3. current yield will equal the calculated YTM. 4. nominal yield will be greater Value 100% Correct Answer Feedback

than the calculated YTM. Score:


8.

1/1

In order to have a yield to maturity less than the coupon rate, the bond must be: Student Response 1. selling at par. 2. selling at a premium. 3. selling at a discount. 4. a zero coupon bond. Score:
9.

Value

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100%

1/1

The par value of a convertible security divided by the conversion ratio is known as the conversion: Student Response 1. premium. 2. price. 3. ratio. 4. value. Score:
1 0.

Value

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0% 0/1

If a convertible bond is quoted at 90 (par value = $1000) and has a conversion rate of 30, then the underlying stock should be trading at: Student Response 1. $3 2. $30 100% Current price = conversion value / conversion = $900 / 30 = $30 Value Correct Answer Feedback

3. $90 4. $27 General Current price = conversion value / conversion ratio Feedback: = $900 / 30 = $30 Score:
1 1.

1/1

The arbitrage pricing theory (APT) and the CAPM both assume all except which of the following? Student Response 1. Investors have homogeneous beliefs. 2. Borrowing and lending can be done at the rate RF. 3. Markets are perfect. 4. Investors are risk-averse utility maximizers. Score:
1 2.

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100%

1/1

Are betas useful in analyzing required rates of return? Student Response Value Correct Answer Feedback

0% 1. Yes, because individual security betas are relatively stable over time. 2. No, because individual security betas are unstable over

time. 3. No, because portfolio betas are unstable over time. 4. Yes, because portfolio betas are relatively stable over time. Score:
1 3.

0/1

A security that plots above the SML would be a good security to sell short because it is overvalued. Student Response 1. True 2. False Score:
1 4.

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100% 1/1

Select the correct statement regarding the market portfolio. It: Student Response 1. should be composed of stocks or bonds. 2. is the lowest point of tangency between the risk-free rate and the efficient frontier. 3. is readily and precisely observable. 4. should include all risky assets. 100% Value Correct Answer Feedback

Score:
1 5.

1/1

Select the true statement regarding the results of CAPM tests. Student Response 1. Investors are rewarded for assuming systematic and unsystematic risk. 2. The SML appears not to be linear. 100% 3. The intercept term is a generally found to be higher than the risk-free rate. 4. The slope of the CAPM is steeper than posited by the theory. Score:
1 6.

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1/1

The systematic risk level of a security: Student Response 1. is best approximated by the slope of the SML. 2. is measured by the security's beta. 3. does not take into account the Value Correct Answer Feedback

variance of the overall market portfolio. 4. is measured by 0% the standard deviation of the market and the standard deviation of any individual security. Score:
1 7.

0/1

The most important role of the capital asset pricing model (CAPM) is to determine: Student Response 1. the beta for an individual security or portfolio. 2. the systematic risk of a security or a portfolio. 3. the total risk of a security or portfolio. 4. the required return on a security or portfolio. Score:
1 8.

Value

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100%

1/1

The Capital Asset Pricing Model (CAPM) prices: Student Response 1. all the risk of a security. Value Correct Answer Feedback

2. the unsystematic risk of a security. 3. the diversifiable risk of a security. 4. the systematic risk of a security. Score:
1 9.

100%

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In equilibrium, all risky assets must have betas equal to 0. Student Response 1. True 2. False Score:
2 0.

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100% 1/1

Which statement is incorrect? Student Response 1. In equilibrium the correctly priced assets will lie on the SML. 2. The SML prices 100% the relationship between expected return and risk for individual securities only and cannot price efficient portfolios. 3. The beta for a Value Correct Answer Feedback

stock is the independent variable for the SML and not its slope. 4. The RF is the intercept for the SML. Score:
2 1.

1/1

Which of the following is not one of the assumptions of the CAPM? Student Response 1. There are no personal income taxes. 2. There are no transaction costs. 3. All investors have the same one-period time horizon. 4. There is no interest rate charged on borrowing. Score:
2 2.

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0%

0/1

Which of the following statements about the difference between the SML and the CML is false? Student Response 1. The intercept of both the CML and the SML is RF. 2. The CML and Value Correct Answer Feedback

the SML are both assumed to be upward sloping. 3. The CML and the SML measure everything the same except they were derived by different theorists. 4. The CML prices 0% efficient portfolios, while the SML prices both portfolios and individual securities. Score:
2 3.

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The Security Market Line is the graphical depiction of the Capital Asset Pricing Model. Student Response 1. True 2. False Score:
2 4.

Value 100%

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1/1

The returns, variances, and covariances of annual returns for XYZ Corp. and AST Inc. have been calculated for the period 19992008 (n = 10). The values are: Corporation Return Variance Covariance XYZ 31.4% 194.4 173.8 AST 23.0% 354.5 173.8
Reference: Ref 9-1

If the mean return and variance for the market (S&P/TSX Composite Index) for the period were 18.2 percent and 161.1 respectively, and the covariance between AST and S&P/TSX Composite Index was 159.4, the beta for AST would have been:

Student Response 1. greater than 1.00.

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2. between .50 and 100% 1.00. 3. less than zero, negative. 4. between zero and .50. General Feedback: Score:
2 5.
AST

AST

i,M/

= 159.4/161.1 = 0.989448

i,M/

= 159.4/161.1 = 0.989448

1/1

Like the CAPM, the APT assumes borrowing and lending can be done at the risk-free rate. Student Response 1. True 2. False Score:
2 6.

Value 0%

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0/1

Market equilibrium exists: Student Response 1. when the parties involved in trading have heterogeneous expectations which provide the incentive to trade. 2. when assets are underpriced allowing for speculation. Value Correct Answer Feedback

3. when assets are 100% priced correctly to allow the markets to clear. 4. when assets are overpriced allowing for short selling. Score:
2 7.

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Which of the following statements regarding beta is true? Student Response 1. Beta is an absolute measure of risk. 2. Beta is a geometric measure of risk. 3. Beta is a relative 100% measure of risk. 4. Beta is a abstract measure of risk. Score:
2 8.

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1/1

The size of yield spreads tends to remain constant over time. Student Response 1. True 2. False Score:
2 9.

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100% 1/1

Bond investors can avoid the risk that interest rates will rise and drive bond prices down by:

Student Response

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1. holding the bond 100% until maturity. 2. buying Government of Canada bonds. 3. buying stripped bonds. 4. holding intermediate term bonds. Score:
3 0.

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A major difference between the liquidity preference theory and the expectations theory is that the liquidity preference theory: Student Response 1. only deals in long-term securities. 0% 2. assumes investors are risk averse and the expectations theory does not. 3. only deals in short-term securities. 4. recognizes that interest rate expectations are uncertain. Score:
3 1.

Value

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0/1

The intrinsic value of common stock is calculated by:

Student Response 1. present value of all capital gains.

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2. present value of 100% all expected cash flows. 3. present value of all dividend payments. 4. future value of all dividend payments. Score:
3 2.

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What is the estimated value of a stock with a required rate of return of 10 percent, a projected constant growth rate of dividends of 5 percent and expected dividend of $2.00? Student Response 1. $44 2. $4 3. $20 4. $40 General Feedback: Score:
3 3.

Value

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100% P0 = D1 / (k g) = 2 / (.10 .05) = $40 1/1

P0 = D1 / (k g) = 2 / (.10 .05) = $40

Which of the following statements regarding dividend discount models is not true? Student Response 1. Different investors often use different discount rates in their calculation. Value Correct Answer Feedback

100% 2. Few money managers use the model to estimate intrinsic value. 3. Future benefits are uncertain and must be estimated. 4. The models are based on estimates. Score:
3 4.

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EVA analysis reflects an emphasis on return on capital. Student Response 1. True 2. False Score:
3 5.

Value 100%

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1/1

If interest rates rise and other factors remain constant, the P/E ratio of a company will: Student Response 1. increase. 2. decrease. 3. become negative. 4. become more volatile. Score:
3 6.

Value

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0%

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The P/E model can value common stocks when a firm does not pay dividends.

Student Response 1. True 2. False Score:


3 7.

Value 100%

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1/1

A company has a price to sales ratio of 1.10, annual sales of $2 billion and 100 million shares of common stock outstanding. Its stock price is: Student Response 1. $17.52 2. $20.00 3. $18.18 4. $22.00 100% 2 billion 100 million = $20 Sales per share $20 1.10 PSR = $22 MPS Value Correct Answer Feedback

General 2 billion 100 million = $20 Sales per share Feedback: $20 1.10 PSR = $22 MPS Score:
3 8.

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The intrinsic value of any stock is its: Student Response 1. current dividend yield. 2. future value of expected dividends. 3. present value of 100% future dividends. 4. current market price. Score: 1/1 Value Correct Answer Feedback

3 9.

An investor planning to sell stock at the end of two years can still use the DDM to value the stock because the anticipated selling price is: Student Response 1. too risky to be considered a variable within the model. 2. irrelevant to the analysis since it does not consider future dividends. 3. built into the model as the selling price in two years would be simply the present value of anticipated dividends. 4. worth little as the present value of the price in two years would be close to zero. Score:
4 0.

Value 0%

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0/1

Which of the following is a problem in using the dividend discount model (DDM) to value common stock? Student Response 1. The model does not consider the riskiness of the stock. 2. The model does not consider the present value of the dividends. Value Correct Answer Feedback

3. The model does 100% not value firms which do not pay dividends. 4. The model does not account for small dividends. Score:
4 1.

1/1

Compare the security market line model and the arbitrage pricing theory. Student Response 1. Please see email 0/15 15/15 This score has been adjusted by the grader. Value 0% Correct Answer

Score: New score:

Comments Very good. :


4 2.

At a given point the SML requires that a security with a beta of 1.10 should have a return of 18 percent. Analysts calculate that a particular stock with an observed beta of 1.10 actually produces a return of 20 percent. Outline the scenario that will restore the security's return to equilibrium. Student Response 1. Please see email 0/15 15/15 This score has been adjusted by the grader. Value 0% Correct Answer

Score: New score:

Comments Well done. :


4 3.

A 10-year, $1000 corporate bond paying $100 in interest annually is currently selling for $950. (a) Calculate its current yield. (b) Calculate the coupon rate. (c) Calculate the Total Return for this bond if it is sold one year later for $800.

Student Response 1.

Value

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a) 100/950 = 10.53%, b) 100/1000 = 10% c) TR 0% = (CF+(Ending Price -Beginning Price)) / Beginning Price = -5.26% 0/15 15/15 This score has been adjusted by the grader.

Score: New score:

Comments Well done! :


4 4.

Contemporary Casuals, Inc., (CCI) has a beta of 1.15, an expected dividend of $2.30, and an expected dividend growth rate of 5 per cent for the foreseeable future. The S&P/TSX Composite Index expected return is 18 per cent, and the Treasury bill rate is 6 per cent. (a) Calculate the required return on Contemporary stock. (b) Calculate the price of Contemporary stock. Student Response 1. a) RF+Beta(E(R)M - RF) = 6%+1.15(18%6%)=19.80% b)Expected Dividend/(E(R)MExpected Dividend Growth Rate) = $2.3/(.18.05)=17.6923 or $17.23 0/15 11/15 This score has been adjusted by the grader. Value 0% Correct Answer

Score: New score:

Comments a) correct b) P0 = D1/(Kcs-g) => P0= 2.30/(19.8%-5%) = $ 15.54 :

1.

Dividends on common stock are typically declared and paid: Student Response 1. quarterly. 2. semi-annually. 3. monthly. 4. yearly. Score: 1/1 Value 100% Correct Answer Feedback

2.

Which of the following statements regarding dividend dates is true? Student Response 1. The ex-dividend date is prior to the date of record. 100% 2. The date of record is prior to the ex-dividend date. 3. The ex-dividend date is prior to the declaration date. 4. The date of record is prior to the declaration date. Score:
3.

Value

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1/1

Which of the following is not an institutional investor? Student Response 1. pension funds 2. chartered banks 3. high net worth investors 4. insurance companies Score:
4.

Value

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100%

1/1

In order to become licensed to sell securities in Canada, individuals must pass the following courses: 1. CSC 3. IFIC 2. CPH 4. CFA

Student Response 1. 1, 2, and 3 2. 1 only 3. 1 and 4 4. 1 and 2 Score:


5.

Value

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0%

0/1

Which of the following is not a usual characteristic of money market securities? Student Response 1. They are issued by large credit worthy corporations in large denominations. 2. They are very liquid instrument that trade without a significant liquidity premium. 3. They include Tbills, commercial paper, and bankers' acceptances. 4. They are of an intermediate to long term maturity. Score:
6.

Value

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100%

1/1

The ex ante risk-return trade-off as its basic principle suggests:

Student Response 1. the amount of expected return for investors is not directly related to the amount of expected risk. 2. a lower expected return for investors who take on higher expected risk.

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100% 3. a higher expected return for investors who take on higher expected risk. 4. the same expected return for investors who take on higher expected risk. Score:
7.

1/1

A major difference between a warrant and a call option is that: Student Response Value Correct Answer Feedback

100% 1. warrants generally have a longer term. 2. options have a greater leverage effect. 3. warrants have less value. 4. warrants allow investors to buy

bonds; calls allow investors to buy stock. Score:


8.

1/1

A three-for-one stock split results in which of the following, compared to before the split? Student Response 1. One-third as many shares; the same total book value of equity; one-third the market price per share. 2. Three times as 100% many shares; the same total book value of equity; one-third the market price per share. 3. Three times as many shares; three times the total book value of equity; three times the market price per share. 4. One-third as many shares; one-third the total book value of equity; onethird the market price per share. Score:
9.

Value

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1/1

The discipline of security analysis concerns as its primary criterion to provide a(n): Student Response Value Correct Answer Feedback

1. purchasing securities at the best price. 2. analysis of the overall securities market and its direction. 3. determination of the investor's required return. 4. valuation and analysis of individual securities. Score:
1 0.

100%

1/1

An unsecured bond that has a claim that is after all other debt holders is known as a(an): Student Response 1. debenture. 2. indenture. 3. subordinated debenture 4. mortgage bond. Score:
1 1.

Value

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100%

1/1

The Dow Jones Industrial Average is composed of: Student Response 1. 500 OTC stocks. 2. 100 defensive stocks. 3. 100 cyclical stocks. Value Correct Answer Feedback

4. 30 blue chip stocks. Score:


1 2.

100%

1/1

A criticism of the Dow Jones Industrial Average is: Student Response 1. it adjusts for even small stock dividends. 2. it is a value weighted method. 3. it includes too many risky stocks. 4. it has too few stocks in the average. Score:
1 3.

Value

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100%

1/1

All public offerings regulated by the Canadian Business Corporations Act require that a(n) _____ be prepared to outline full, true, and plain disclosure of material facts relating to the securities offered. Student Response 1. MOU 2. prospectus 3. indenture 4. debenture Score:
1 4.

Value

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100%

1/1

A listed company can be cancelled or delisted for the following reasons except:

Student Response

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1. the company cut 100% its dividend in two successive quarters. 2. it no longer exists. 3. the company has no assets or is bankrupt. 4. public distribution of the security is no longer sufficient. Score:
1 5.

1/1

A major difference between the Standard & Poor's 500 Index and the Dow Jones Industrial Average is that: Student Response 1. the S&P 500 is more difficult to calculate than the Dow Jones Industrial Average. 2. the S&P 500 is more stable than the Dow Jones Industrial Average. 3. the S&P 500 is more dominated by OTC stocks than the Dow Jones Industrial Average. 4. the S&P 500 is a 100% market value index and the Dow Jones Value Correct Answer Feedback

Industrial Average is not. Score:


1 6.

1/1

The index currently used in Canada as the basis for derivative products trading is the: Student Response 1. the S&P/TSX Composite Index. 2. TSE 100 Index. 3. the S&P/TSX 60 100% Index. 4. TSE 35 Index. Score:
1 7.

Value

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1/1

The TSX is: Student Response 1. smaller than both the NYSE and Nasdaq. 2. smaller than the NYSE but larger than Nasdaq. 3. smaller than the NYSE and the TSX Venture Exchange. 4. bigger than both NYSE and the TSX Venture Exchange. Score: 1/1 Value 100% Correct Answer Feedback

1 8.

The fourth market refers to: Student Response 1. transactions that are low in volume and dollar amount. 2. transactions made between two brokers without a client involved. 3. transactions where the broker is both the buyer and seller in the same transaction. 100% 4. transactions made between large institutions and wealthy individuals bypassing brokers and dealers. Score:
1 9.

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1/1

Investment dealers operate in the: Student Response 1. secondary market. 2. fourth market. 3. third market. 4. primary market. 100% Score: 1/1 Value Correct Answer Feedback

2 0.

Which of the following is not a primary market transaction? Student Response Value Correct Answer Feedback

1. All of the above 100% are primary market transactions. 2. an IPO 3. treasury bills auctioned by the Bank of Canada 4. a new bond issued by the Bank of Canada Score:
2 1.

1/1

The measure that best shows returns over time in relation to the initial investment is the: Student Response 1. return relative. 2. cumulative wealth index. 3. total return. 4. total yield. Score:
2 2.

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0%

0/1

Which of the following statements regarding returns from 1938 to 2007 is true? Student Response 1. Canadian common stocks Value Correct Answer Feedback

returns were greater than the standard deviation. 0% 2. Most investments underperformed inflation over that time period. 3. Bonds outperformed stocks during this period. 4. Treasury bills outperformed the CPI by less than 1%. Score:
2 3.

0/1

Liquidity risk is associated with: Student Response 1. the use of equity financing by corporations. 2. the use of debt financing by corporations. 3. debt investments held by corporations. 4. the price concession in a secondary market transaction. Score:
2 4.

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100%

1/1

According to the text, total return is: Student Response 1. measured by dividing all cash flows received by its selling price. 2. the reciprocal of a return relative. 100% 3. measured by dividing the sum of all cash flows by the amount invested. 4. the difference between the sale price and the purchase price of an investment. Score:
2 5.

Value

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1/1

The cumulative wealth index is composed of the: Student Response Value Correct Answer Feedback

1. yield component 0% and the price change component. 2. price change component and the inflation rate. 3. total return and return relative. 4. yield component and the risk-free rate. Score: 0/1

2 6.

On average which of the following is false concerning total returns for major financial assets, 1938 to 2007? Student Response 1. Long-term Government of Canada bonds have higher rates than short-term issues. 2. The return on 91-Day Government of Canada T-bills has consistently been less than inflation. 3. US common Stocks have higher returns than Canadian stocks. 0% 4. Canadian common stocks have higher returns than long-term Government of Canada bonds. Score:
2 7.

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0/1

Which of the following statements regarding risk is false? Student Response 1. Nonsystematic risk is also known as specific risk or issuer risk Value Correct Answer Feedback

2. Nonsystematic 100% risk refers to the amount of interest rate risk that will affect the market. 3. Systematic risk is also referred to as market risk or general risk. 4. Systematic risk is attributable to broad macro factors affecting all securities Score:
2 8.

1/1

The bond default premium is measured by the difference between the: Student Response 1. return on longterm corporate bonds and shortterm corporate bonds. 2. return on long- 100% term corporate bonds and longterm government bonds. 3. return on shortterm corporate bonds and shortterm government bonds. 4. return on longterm government bonds and shortterm government bonds. Score: 1/1 Value Correct Answer Feedback

2 9.

The total risk of an asset or a portfolio is measured by: Student Response 1. its covariance with the market portfolio. 2. its standard deviation. 3. its geometric return. 0% 4. its correlation with the market portfolio. Score:
3 0.

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0/1

The equity risk premium is the difference between: Student Response 1. high-grade stocks and lowgrade stocks. 2. a stock market index and the inflation rate. 3. stocks and the risk-free rate. 4. stocks and bonds. Score:
3 1.

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100%

1/1

In the top-down approach to fundamental analysis, industry analysis should:

Student Response 1. come after company analysis.

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0% 2. precede economic/market analysis. 3. In the top-down approach the order of analysis does not matter. 4. come after economic/market analysis but before company analysis. Score:
3 2.

0/1

Generally, when interest rates fall, stock prices: Student Response 1. fall. 2. remain unchanged. 3. rise. 4. rise or fall depending on the expected inflation premium. Score:
3 3.

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100%

1/1

In order to value the market with the P/E model, it is necessary to analyze: Student Response Value Correct Answer Feedback

1. earnings forecasts and P/E ratios. 2. earnings forecasts. 3. earnings forecasts, P/E ratios, and the required rate of returns. 4. P/E ratios. Score:
3 4.

0%

0/1

The beginning and ending of a business cycle is considered to occur during a: Student Response 1. cycle. 2. contraction. 3. trough. 4. peak. Score:
3 5.

Value 0%

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0/1

Assume that the P/E ratio of the S&P/TSX Composite Index is moving quickly above 22 times, and the associated dividend yield has fallen below 2 per cent. Investors attempting market timing should invest in: Student Response 1. high-P/E stocks to buy into stocks at the current market valuation. 2. interest-sensitive stocks to take advantage of the increase in Value Correct Answer Feedback

interest rates that will follow shortly. 3. aggressive stocks to take advantage of the quickly rising market market. 4. defensive stocks 100% to prepare for the pending market slide. Score:
3 6.

1/1

Which of the following is not among the qualitative factors that should be analyzed to assess an industry's future? Student Response 1. Growth rate of sales 2. Structural changes 3. Competition 4. Historical performance Score:
3 7.

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0%

0/1

Assume that the dividend payout ratio on the S&P/TSX Composite Index will be 40 per cent when the rate on long-term government bonds falls to 9 per cent. Investors being more risk averse demand an equity risk premium of eight per cent. If the growth rate of dividends is expected to be 10 per cent, what will be the price of the market index if the earnings expectation is $30? Student Response 1. $266.56 Value 0% Correct Answer Feedback

D1 = 0.40($30) = $12 k = 0.09 + 0.08 = 0.17 P0 = D1 / (k g) = 12 / (0.17 0.10) = $171.43

2. $171.43 3. $384.00 4. $213.44 General D1 = 0.40($30) = $12 Feedback: k = 0.09 + 0.08 = 0.17 P0 = D1 / (k g) = 12 / (0.17 0.10) = $171.43 Score:
3 8.

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The most basic industry rotation strategy involves shifting back and forth between what two industries? Student Response 1. energy and capital goods industries 2. cyclical and defensive industries 3. bank and consumer industries 4. consumer and durable goods industries Score:
3 9.

Value 0%

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0/1

All of the following are lead economic indicators except: Student Response 1. real money supply (M1). 2. new orders for consumer durables. 3. average work week. 0% Value Correct Answer Feedback

4. unemployment rate. Score:


4 0.

0/1

Which of the following statements regarding the uses of market indicators is false? Student Response 1. The historical returns on market indices are used in computing betas. 2. Historical records of market indicators are used to determine unsystematic risk. 3. Market averages 0% and indices are useful to investors in evaluating portfolio performance. 4. Historical records of market averages are used for gauging market trends. Score:
4 1.

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0/1

a) What is total risk? How can we measure it? b) The total risk can be separated into two parts. Explain: b1. which types of risk are these, b2. which one is possible to eliminate through diversification. c) Provide the explanation/rationale for the elimination of part of the total risk via diversification.

Student Total Risk is the systematic (Market) risk and the non-systematic (Specific) risk of a Response: particular security. Total risk can be measured by measuring the standard deviation of the return on the particular asset or security. Systematic (Market) risk is the risk that cannot be eliminated no matter how much hedging or diversification is done to a portfolio. Systematic risk is the risk that every investor must pay. Non-systematic (Specific) risk is the risk that can be reduced or eliminated through hedging and diversification. b1 is systematic (market) risk b2 is the non-systematic risk, which can be reduced or eliminated through diversification or hedging. The rationale for the elimination of part of the total risk via diversification is that the more stocks you add to your portfolio at a certain point you can no longer reduce your risk any further. Diversification works by reducing your specific risk by adding uncorrelated stocks to the portfolio that combine to offset the uncontrollable factors within the market. This is because the more and more of the stocks that are added to the portfolio, the more they are correlated. The optimum amount of stocks is 20-30, and for Canada it is about 70 stocks. Each additional stock at a certain point only reduces your risk a small amount. This is because each additional stock adds more work to follow and analyse that stock than it is worth for its added benefit to the portfolio. There is a certain amount of market risk (systematic risk) that everyone pays and it cannot be eliminated. To analyse stocks it is better to use correlation coefficient rather than correlation covariance. Covariance is the amount or degree that two stocks move returns move together. The problem with covariance is that just looking at the number you dont know. A better way to determine a portfolio is through correlation coefficient, which is a way of determining the direction and strength of the relationship between two variables. A +1 is a perfect positive correlation means that the two variables move in the same direction together A 0 means there is zero correlation between the two variables. A -1 correlation (inverse relationship) means that there is a perfect negative correlation where the two variables move the opposite direction. Example of negatively correlated industries: Heating company vs a air conditioning company. It is a bad thing to be perfectly positively correlated because the securities move up and down together and as such provides no risk reduction. Securities with zero correlation reduce the risk of the portfolio. Negative correlation is best to minimize your overall non-systematic risk. In addition it is better to have zero correlation than a positive correlation. To reduce your overall portfolio risk it is best to choose different industries and select negative correlation coefficients. Foreign stocks are a good addition to a portfolio because they are less correlated with domestic stocks because they are generally in a different sector and likely not affected by the same factors. Score: 15/15

Comments: Very good answer!


4 2.

Why is the introduction of risk-free borrowing and lending such an important change relative to the Markowitz analysis? Student Markowitz portfolio selection is a form of non-random diversification. The Markowitz model Response: requires active measurement and management of the securities to determine best possible portfolio. Each relationship between the securities must be analyzed before deciding whether or not to add it to the portfolio. This requires a lot of time and energy analysing each security especially as the number of securities within the portfolio increases. Markowitz model assess each security for how their returns move together by taking advantage of the expected return and risk for each of the individual securities. With the the introduction of risk-free borrowing

and lending is such an important change relative to the Markowitz analysis because the markowitz model is built on the best combination of risk versus return. With the introduction of risk free investments such as T-bill and risk free lending the efficient frontier model is used. The efficient frontier graph demonstrates the risk versus return for investors. It is used to acquire the optimal portfolio of risk versus return with is determined by the investors risk level. The option that investors have to own not only risky investments but also risk free investments changes the efficient set to a straight line that now intersects the efficient frontier curve at a single point. This intersection point is determined to be the best possible risk versus return choice for a specifically selected group of securities within a portfolio. Score: 12/15

Very good answer! You could only have emphasized that considering risk free lending and borrowing investors expand their possibilities, and become with more options (and with Comments: better options since they were able to get higher returns at the same level of risk compared to the previous model).
4 3.

Using the stock prices of Tim Hortons and Rogers Communications available on Google Finance (and also on the links below), prepare an Excel spreadsheet providing the following information: * total return (in %) for each day per company; * (arithmetic) return average per company: * total risk (standard deviation) per company; * covariance between the two companies; * correlation between the two companies; * total return (in %) of a portfolio formed by the companies (weight= 20% for Tim Hortons and 80% for Rogers), considering the data found previously. * total risk (standard deviation) of a portfolio formed by the two companies (weight= 20% for Tim Hortons and 80% for Rogers), considering the data found previously. Instructions: * You can use formulas created by yourself in Excel; not the functions, though. * Tim Hortons link: http://www.google.com/finance/historical?q=TSE:THI * Rogers Communications link: http://www.google.com/finance/historical?q=TSE:RCI.A * send the spreadsheet as an attached file to the email cleusafinc4340@gmail.com with your name and ID. * the number of days should be the same as the 2 last digits of your ID. For instance: ID = 300167998, you should consider to have 98 days or 98 stock prices to make all your calculations asked above. Student not answered Response: Score: 30/30 Comments: Well done!

1.

A bond's intrinsic value is: Student Response 1. another name for Value Correct Answer Feedback

par value. 2. the amount by which the market value exceeds the par value of the bond. 3. the value that the bond will pay to the bondholder at maturity. 4. the present value 100% of the expected cash flows to be received from the bond. Score:
2.

1/1

One of the advantages of a convertible is downside protection. This means that the: Student Response 1. price of the bond will always be at least 90 per cent of its market price. 2. price of the bond will not decline below its par value. 3. bond price will be fairly stable irrespective of changes in the interest rate. 4. convertible bond's price will not fall below the bond's investment value. 100% Value Correct Answer Feedback

Score:
3.

1/1

A disadvantage of a convertible bond is: Student Response 1. that convertibles are not callable, and must be held to maturity. 2. its exposure to upside movements in the stock price. 3. a yield less than 100% straight bonds of similar risk and maturity. 4. the lack of downside protection for the investor. Score:
4.

Value

Correct Answer

Feedback

1/1

Which of the following statements about the risk premium affecting market interest rates is false? The risk premium: Student Response 1. is not reflected in the price of the security. 2. results in a yield differential. 3. is additional compensation demanded by investors for the risk involved. 4. is by definition a negative Value 0% Correct Answer Feedback

amount. Score:
5.

0/1

The real rate of interest is almost always: Student Response 1. equal to the nominal rate of interest. 2. easily affected by risk factors. 3. the opportunity 100% cost of foregoing consumption. 4. greater than the nominal rate of interest. Score:
6.

Value

Correct Answer

Feedback

1/1

Find the price of a 10 percent coupon bond with three years to maturity if the yield to maturity is now 12 per cent. Use semi-annual discounting. Student Response 1. $1196.70 2. $999.80 3. $952.20 4. $950.85 General Use 6 percent and 6 periods. Feedback: Price = 50(4.917) + 1000(0.705) = $950.85 Score:
7.

Value

Correct Answer

Feedback

0%

Use 6 percent and 6 periods. Price = 50(4.917) + 1000(0.705) = $950.85

0/1

Which of the following regarding the current yield on a bond is not true?

Student Response

Value

Correct Answer

Feedback

100% 1. The current yield shows the bond's expected rate of return if held to maturity. 2. The current yield is superior to the coupon rate because it uses market price instead of face value. 3. The current yield does not account for difference between purchase price and redemption value. 4. The current yield is equal to the coupon rate if the bond is trading at par. . Score:
8.

1/1

In the equation for the Security Market Line (SML), the slope is represented by: Student Response 1. RF. 2. 3.
i. i,M i/ M

Value

Correct Answer

Feedback

4. [E(RM) RF] Score:


9.

100%

1/1

Like the CAPM, the APT assumes borrowing and lending can be done at the risk-free rate. Student Response 1. True 2. False Score:
1 0.

Value

Correct Answer

Feedback

100% 1/1

Choose the statement below that is not correct. Student Response Value Correct Answer Feedback

100% 1. With the introduction of risk-free borrowing and lending, the efficient frontier will be an arc that is higher than the Markowitz arc which had been the efficient frontier. 2. With the addition of riskfree borrowing and lending, the Markowitz efficient frontier is dominated by a new efficient frontier. 3. With the introduction of risk-free borrowing and lending, the efficient frontier will become a straight line. 4. In equilibrium,

all risky assets must still be in the market portfolio. Score:


1 1.

1/1

If markets are efficient and in equilibrium: Student Response 1. any assets that lie above the SML would be considered overvalued. 2. no assets would lie on the SML. 3. all assets would 100% lie on the SML. 4. any assets that plot below the SML would be considered undervalued. Score:
1 2.

Value

Correct Answer

Feedback

1/1

What does it mean when the CAPM is called robust? Student Response 1. No other model can represent stock returns better than the CAPM. 2. The CAPM requires no assumptions. 3. Even if most of 100% Value Correct Answer Feedback

the assumptions of the CAPM are relaxed, most of the conclusions will still hold. 4. The CAPM is based on realistic assumptions. Score:
1 3.

1/1

Are betas useful in analyzing required rates of return? Student Response 1. No, because individual security betas are unstable over time. 2. Yes, because individual security betas are relatively stable over time. 3. No, because portfolio betas are unstable over time. 100% 4. Yes, because portfolio betas are relatively stable over time. Score:
1 4.

Value

Correct Answer

Feedback

1/1

The anticipated market return is 15 percent. The risk-free rate is 4 percent, and AB Co. has a beta equal to one-half of the market beta. Its risk premium is: Student Response Value Correct Answer Feedback

1. 9.5 percent. 2. 11 percent. 3. 5.5 percent. 4. 15 percent. General Feedback: Score:


1 5.

0%

Risk premium = 0.5(15 4) = 5.5 percent

Risk premium = 0.5(15 4) = 5.5 percent 0/1

Which of the following is not true for the P/E ratio? Student Response 1. It is also known as the earnings multiple. 2. All of the above are true for the P/E ratio. 3. Analysts use this model more often than the DDM . 4. It is the number 100% of times investors value earnings as expressed in the stock price. Score:
1 6.

Value

Correct Answer

Feedback

1/1

The intrinsic value of any stock is its: Student Response 1. future value of expected dividends. 2. current market Value Correct Answer Feedback

price. 3. present value of 100% future dividends. 4. current dividend yield. Score:
1 7.

1/1

Preferred stock is considered a perpetuity. Student Response 1. True 2. False Score:


1 8.

Value 100%

Correct Answer

Feedback

1/1

Tyler Toys 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 cent per year. The required rate of return is 14 per cent. What is the intrinsic value of this stock? Student Response 1. $17.14 2. $42.86 3. $40.05 4. $18.34 100% D0 = $1.20 D1 = 1.20(1.07) = 1.28 P0 = 1.28 / (.14 .07) = $18.34 Value Correct Answer Feedback

General D0 = $1.20 Feedback: D1 = 1.20(1.07) = 1.28 P0 = 1.28 / (.14 .07) = $18.34 Score:
1 9.

1/1

What is the estimated value of a stock with a required rate of return of 10 percent, a projected constant growth rate of dividends of 5 percent and expected dividend of $2.00?

Student Response 1. $20 2. $4 3. $40 4. $44 General Feedback: Score:


2 0.

Value

Correct Answer

Feedback

100%

P0 = D1 / (k g) = 2 / (.10 .05) = $40

P0 = D1 / (k g) = 2 / (.10 .05) = $40 1/1

The required rate of return on a common stock investment is also known as the: Student Response 1. the anticipated dividend yield. 2. expected capital gains yield. 100% 3. the minimum expected rate of return. 4. prevailing market rate of interest. Score:
2 1.

Value

Correct Answer

Feedback

1/1

The zero-growth dividend model: Student Response 1. provides higher values for common stocks than a positive constant growth. 2. assumes the highest required Value Correct Answer Feedback

return possible. 3. is the most accurate model to use. 4. is equivalent to 100% the valuation model for preferred stocks and perpetual bonds. Score:
2 2.

1/1

Markowitz's main contribution to the study of modern portfolio theory is: Student Response 1. that risk can be best measured for individual assets but has limited applications in portfolios. 2. risk while measured in the past is not quantifiable for use in the future. 3. the measurement 100% of portfolio risk through the use of variance and covariance statistics. 4. that risk is best measured by subjective assessment. Score:
2 3.

Value

Correct Answer

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1/1

If two stocks had a correlation coefficient between them that decreased over time from a mildly positive correlation to zero correlation, all else remaining constant, the portfolio's risk would: Student Response 1. remain constant. 2. be negative. 3. increase. 4. decrease. Score:
2 4.

Value

Correct Answer

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100% 1/1

Which of the following correlation coefficients would provide the greatest benefit for diversification? Student Response 1. a mildly positive correlation coefficient 2. a correlation coefficient equal to zero 3. a perfectly positive correlation coefficient 4. a perfectly negative correlation coefficient Score:
2 5.

Value

Correct Answer

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100%

1/1

According to Markowitz's mean-variance model, the variance of a portfolio is equal to the weighted: Student Response 1. covariances between all unique pairs of Value Correct Answer Feedback

securities. 2. average of the individual variances. 3. variances plus the weighted covariances of all pairs of securities. 4. covariances plus the weighted betas of the securities. Score:
2 6.

100%

1/1

Which of the following conditions will result in the greatest amount of risk reduction if an investor were to purchase two securities instead of one for inclusion in a portfolio? Student Response 1. The assets are positively correlated with each other. 2. The assets are in the same risk category, e.g., blue chips.chips. 3. The assets are independent of each other. 4. The assets are negatively correlated with each other. Score:
2 7.

Value 100%

Correct Answer

Feedback

1/1

If an investor had a one-year holding period for an investment and would receive cash flows only at the end of that period without the potential to reinvest, then the best measure of return for that investment would be:

Student Response

Value

Correct Answer

Feedback

1. arithmetic mean. 100% 2. calculus mean. 3. arithmetic median. 4. geometric mean. Score:
2 8.

1/1

The measure that best shows returns over time in relation to the initial investment is the: Student Response 1. total yield. 2. return relative. 3. cumulative wealth index. 4. total return. Score:
2 9.

Value

Correct Answer

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100%

1/1

Calculation of wealth indexes involve compounding: Student Response 1. at the geometric mean return. 2. based on the systematic risk factor. 3. based upon the standard deviation. 4. at the arithmetic 0% mean return. Score: 0/1 Value Correct Answer Feedback

3 0.

Liquidity risk: Student Response 1. is the risk associated with secondary market transactions. 2. is the risk that investment bankers normally face. 3. increases whenever interest rates increase. 4. is lower for small OTC stocks than for large NYSE stocks. Score:
3 1.

Value

Correct Answer

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0%

0/1

The total risk of an asset or a portfolio is measured by: Student Response 1. its standard deviation. 2. its covariance with the market portfolio. 3. its geometric return. 4. its correlation with the market portfolio. Value 100% Correct Answer Feedback

Score:
3 2.

1/1

Investors should be willing to purchase a particular asset: Student Response 1. if the holding period is long enough to recoup the purchase price of the asset through dividends or interest payments. 2. if the expected return is adequate to compensate for the risk. 3. if they are true speculators. 4. if the expected return is greater than the return paid on treasury bills. Score:
3 3.

Value

Correct Answer

Feedback

100%

1/1

New regulations on open pit mining that affects the base metals industry is a type of: Student Response 1. liquidity risk. 2. market risk. 3. financial risk. 4. business risk. Score: 1/1 100% Value Correct Answer Feedback

3 4.

A portfolio which lies above below the efficient frontier is described as: Student Response 1. unattainable. 2. inferior. 3. dominant. 4. optimal. Score:
3 5.

Value

Correct Answer

Feedback

0%

0/1

Which of the following statements regarding indifference curves is not true? Student Response 1. Investors have a finite number of indifference curves. 2. Indifference curves cannot intersect. 3. The indifference 0% curves for all risk-averse investors will be upward sloping. 4. The greater the slope of the indifference curve, the greater the risk aversion of investors. Score:
3 6.

Value

Correct Answer

Feedback

0/1

Which of the following statements regarding systematic risk is true? Student Response 1. Virtually all securities have systematic risk. 2. Only common stocks have systematic risk. 3. Systematic risk is measured by the covariance. 4. It is impossible to measure systematic risk. Score:
3 7.

Value

Correct Answer

Feedback

0%

0/1

Assume that an investor is concerned with investing in not only risky assets, X, but also the risk-free asset RF. The standard deviation of such a portfolio would be calculated as: Student Response 1. 2. 3. 4. Score:
3 8.
p p p p

Value 0%

Correct Answer

Feedback

RF,X RF X X X RF

= (1 wRF) = (1 wX) = (1 wX)

0/1

The separation theorem states that: Student Response 1. systematic risk is separate from unsystematic risk. Value Correct Answer Feedback

2. the investment decision is separate from the financing decision. 3. borrowing portfolios are separate from lending portfolios. 4. the individual security risk is separate from portfolio risk. Score:
3 9.

100%

1/1

In advance of an expected market decline, an investor reduces the holdings of the equity portion of her diversified portfolio and uses the proceeds to purchase money market securities. The investor is attempting to reduce her exposure towards: Student Response 1. country/political risk. 2. systematic risk. 3. inflation risk. 4. diversifiable risk. Score:
4 0.

Value

Correct Answer

Feedback

100%

1/1

Which of the following is true concerning the Markowitz portfolio selection model? Student Response 1. In practice all investors or portfolio managers will estimate the Value Correct Answer Feedback

inputs to the model in the same way leading to only one efficient frontier. 2. Conservative investors would choose portfolios on the right side of the efficient set while aggressive investor would be more apt to choose portfolios on the left side. 3. The model generates an entire set of efficient portfolios all of which are equally good with none of these portfolios on the efficient frontier dominating any other. 0% 4. The model addresses the issue of investors using borrowed money along with their own portfolio funds to purchase a portfolio of risky assets. Score:
4 1.

0/1

Listed below are the end-of-year prices and annual dividends for ABC Corporation.

Year ... End-of-year price.. Annual dividends 2004 .......... $ 82 ............ $1.50 2005 .......... $ 85 ............ $1.80 2006 .......... $ 92 ............ $1.92 2007 .......... $ 87 ............ $1.56 2008 .......... $ 84 ............ $ 1.45 2009 .......... $ 90 ............ $ 1.67 2010 .......... $ 89 ............ $ 1.70 a) Calculate the total return (in %) for 2005, 2006, 2007, 2008, 2009 and 2010 b) Calculate the return relatives for each year mentioned in a) c) Calculate the arithmetic average return over the 2005-2010 holding period. d) Determine the cumulative wealth index for the 2006-2009 period. e) Based solely on the historical information above, what is your best estimate for the return on ABC Corporation for 2011? Briefly explain. Student a)Total Return (incl. Div.) 2004 = -1.76% 2005 = -5.65% 2006 = 7.95% 2007 = 5.43% 2008 Response: = -5.06% 2009 = 3.00% b)Return Relative (incl. div) 2004 = 98.24% 2005 = 94.35% 2006 = 107.95% 2007 = 105.43% 2008 = 94.94% 2009 = 103.00% c) Arithmetic Average from 2005 - 2010 = .0065169 d) Total Wealth = $103.16 CWI 2004 = 1 2005 = 0.943478261 2006 = 1.018522739 2007 = 1.073813973 2008 = 1.019526711 2009 = 1.050112512 e) Based solely on the historical information above, my best estimate for the return on ABC Corporation for 2011 would be a positive return between 3 and 7% most likely around 5%. Score: 5/20

Comments: All incorrect.


4 2.

Calculate the risk (standard deviation) of the following two-security portfolio if the correlation coefficient between the two securities is equal to 0.5. Security..... Variance ... Weight (in the portfolio) Security A ... 10% ....... 0.3 Security B ... 20% ....... 0.7 Student Standard deviation of the portfolio = [w12 12 + w22 22 + 2(w1)(w2)( 1,2) 1 2]1/2 = Response: [(0.3)2(10) + (0.7)2(20) + 2(0.3)(0.7)(0.5)(10)1/2(20)1/2]1/2 = 3.7 per cent Score: 8/10

Comments: incorrect calculation; answer=0.37 or 37%


4 3.

You are evaluating two securities, XYZ and BB2B. Using historical data, you obtain their estimated

expected returns and standard deviations: E(Rxyz) = 8%; ST DEVxyz = 20% E(Rbb2b)= 6%; ST DEVbb2b = 12% a) Suppose that the correlation coefficient between the returns on stock XYZ and market returns is 0.20, while it is 0.65 for stock BB2B. If the standard deviation of the market portfolio is 15%, estimate the beta for each security. b) b1) Estimate the required rate of return on each of the stocks if the expected return on the market is 9% and the risk-free rate is 4%. b2) Determine whether they appear to be overvalued or undervalued according to CAPM. c) c1) Estimate the required rate of return for a portfolio formed with 40% of wealth invested in XYZ and 60% in BB2B, and c2) determine if it is undervalued or overvalued. Student a) XYZ = (0.2) *(20)/15 = 0.2667 BB2B = (0.65) (12)/15 = 0.5200 Response: b) required returns according to CAPM are: Ra = 4 + 0.2667 (9 4) = 3 + 1.6215 = 5.3335 % Since the estimated expected return of 8% > required rate of return, XYZ is currently undervalued. Rb = 4 + 0.52 (9 4) = 3 + 2.483 = 6.60% This is > estimated expected return of 6%, which suggests that BB2B is currently overvalued. c) p = Wa a + Wb b = (0.4) (0.2667) + (0.6) (0.52) = 0.4187 Rp = 4 + 0.4187 (9 4) = 6.0935% E (Rp) = 0.4(8) + 0.6(6) = 6.8% The estimated expected return of 6.8% exceeds this required rate of return of 6.0935%, which suggests that the portfolio is currently undervalued. Score: 30/30

Comments: Very good.