14) Walgreens Company (NYSE: WAG) is currently trading at $48.75 on the NYSE.
Walgreens Company is also listed on NASDAQ and assume it is currently trading on
NASDAQ at $48.50. Does an arbitrage opportunity exist and, if so, how would you exploit it
and how much would you make on a block trade of 100 shares?
A) No, no arbitrage opportunity exists.
B) Yes, buy on NASDAQ and sell on NYSE, make $25.
C) Yes, buy on NYSE and sell on NASDAQ, make $25.
D) Yes, buy on NASDAQ and sell on NYSE, make $250.
AACSB Objective: Analytic Skills
Author: JN
Question Status: Previous Edition
15) Which of the following is an example of arbitrage?
A) An inventor of a new hydrocarbon cracking technology based on palladium buys this
metal knowing that its price will rise when the technology is adopted.
B) A metals merchant is ofered $108,000 in one year for $100,000 of palladium today,
when the interest rate is 10%.
C) An investor, seeing that the price of palladium on the metals exchange in two diferent
countries is slightly diferent, buys on one and sells on the other to make a proit.
D) A irm buys $250,000 of palladium today, with an option to sell it at $275,000 in one year
if interest rates rise above 10%.
AACSB Objective: Relective Thinking Skills
Author: DS
Question Status: Previous Edition
16) Why are arbitrage opportunities short-lived?
A) Federal regulations will kick in to restrict trade and efectively shut the opportunity
down.
B) Prices will luctuate up and down as traders take advantage of the opportunity, resulting
in the net present value (NPV) luctuating between positive and negative values.
C) Once investors take advantage of the opportunity, prices will respond so that the buying
and selling price become equal.
D) Arbitrage opportunities need a lot of information processing, which is very slow to
arrive.
AACSB Objective: Analytic Skills
Author: DS
Question Status: Previous Edition
21
17) The State Bank ofers an interest rate of 5.5% on savings and 6% on loans, while the
Colonial Bank ofers 6.5% on savings and 7% on loans. Which of the following is the LEAST
likely outcome of such a situation?
A) The State Bank would experience a surge in demand for loans.
B) The Colonial Bank would experience a surge in demand for deposits.
C) The State Bank would experience a fall in demand for deposits.
D) The Colonial Bank would experience a surge in demand for loans.
AACSB Objective: Relective Thinking Skills
Author: DS
Question Status: Previous Edition
18) If the exchange rates, after fees, in Tokyo are ¥1,000 = €6 = $9 and the exchange rates
in Paris are
€1 = $1.5 = ¥171, which of the following is most likely to occur?
A) a surge in conversion of dollars to yen in Tokyo
B) a surge in conversion of euros to yen in Tokyo
C) a surge in conversion of euros to dollars in Paris
D) a surge in conversion of euros to yen in Paris
AACSB Objective: Analytic Skills
Author: DS
Question Status: Previous Edition
19) A backhoe can dig 180 feet of trench per hour and costs $720 per hour to hire and
operate. A ditch digger can dig 6 feet of trench per hour. Based on this information, what is
the most a ditch digger can charge for per hour when digging ditches?
A) $24.0 per hour
B) $29.0 per hour
C) $4.0 per hour
D) $48.0 per hour
AACSB Objective: Analytic Skills
Author: DS
Question Status: Previous Edition
22
20) “If equivalent investment opportunities trade simultaneously in diferent competitive
markets, then they must trade for the same price in both markets.”
What do we call the above statement?
A) The Net Present Value rule
B) The Law of One Price
C) The Valuation Principle
D) The Time Value of Money
AACSB Objective: Analytic Skills
Author: DS
Question Status: Previous Edition
21) A 2013 Toyota Camry can be bought in Bufalo, NY, for $18,620. The same model
Camry can be purchased across the Canadian border in Hamilton, ON. If cars could be
freely traded across the border, what would be the expected price of a 2013 Toyota Camry
in Hamilton in Canadian dollars, given that $1 U.S. is equal to $0.92 Canadian?
A) $17,130
B) $24,287
C) $20,239
D) $28,335
AACSB Objective: Analytic Skills
Author: DS
Question Status: Previous Edition
22) On Commodity Exchange A, it is possible to buy and sell crude oil at $116 per barrel,
while on Commodity Exchange B crude oil can be bought and sold at $117 per barrel. If
there are transaction costs of 1% when buying or selling on either exchange, what is the
net efect of buying a barrel of oil on Exchange A and selling it on Exchange B?
A) -$1.33
B) -$0.67
C) $1.06
D) $1.60
AACSB Objective: Analytic Skills
Author: DS
Question Status: Revised
23) Which of the following statements regarding arbitrage and security prices is
INCORRECT?
A) We call the price of a security in a normal market the no-arbitrage price for the security.
B) In inancial markets it is possible to sell a security you do not own by doing a short sale.
C) When a bond is underpriced, the arbitrage strategy involves selling the bond and
investing some of the proceeds.
D) The general formula for the no-arbitrage price of a security is Price(security) = PV (all
23
cash lows paid by the security).
AACSB Objective: Analytic Skills
Author: JN
Question Status: Previous Edition
24) You see on Craigslist that a used XBOX 360 sells for $100 and a new XBOX 360 sells for
$300. Is this an arbitrage opportunity?
A) No, because the market fora used XBOX 360 is not the same as the market for a new
XBOX 360.
B) No, because the market for a used XBOX 360 is a competitive market.
C) Yes, because the market for a used XBOX 360 is a competitive market.
D) Yes, because the market for a used XBOX 360 is not the same as the market for a new
XBOX 360.
AACSB Objective: Analytic Skills
Author: WC
Question Status: New
25) Cronus Airlines has a contract that gives them the opportunity to purchase up to
13,000,000 gallons of jet fuel at $2.00 per gallon. The current market price of jet fuel is
$2.3 per gallon. Cronus believes they will only need 4,000,000 gallons of jet fuel. What is
the value of this opportunity?
A) $1,200,000
B) $3,900,000
C) $2,700,000
D) $9,000,000
AACSB Objective: Analytic Skills
Author: WC
Question Status: New
24
26) How does arbitrage help the Law of One Price?
AACSB Objective: Analytic Skills
Author: SS
Question Status: Previous Edition
27) You are watching TV late one night and see an ad from Ronco for the Dial-o-matic food
slicer. You learn that the Dial-o-matic sells for $29.95. Ronco also includes a set of Ginsu
steak knives worth $10.95 and another free gift worth $7.95 in this deal. Assuming that
there is a competitive market for Ronco items, at what price must Ronco ofer this three
item Dial-o-matic deal to ensure the absence of an arbitrage opportunity and uphold the
Law of One Price?
AACSB Objective: Analytic Skills
Author: JN
Question Status: Previous Edition
28) Advanced Micro Devices (NYSE: AMD) is currently trading at $20.75 on the NYSE.
Advanced Micro Devices is also listed on NASDAQ. Assume it is currently trading on
NASDAQ at $20.50. Does an arbitrage opportunity exist and, if so, how would you exploit it
and how much would you make on a block trade of 1000 shares?
AACSB Objective: Analytic Skills
Author: JN
Question Status: Previous Edition
29) What is one of the prerequisite conditions for the Valuation Principle to work?
AACSB Objective: Analytic Skills
Author: SS
Question Status: Previous Edition
25
3.3 The Time Value of Money and Interest Rates
1) Dollar amounts received at diferent points in time cannot be compared in absolute
terms.
AACSB Objective: Analytic Skills
Author: DS
Question Status: Previous Edition
2) The one-year discount factor is the discount at which we can purchase money in the
future, one year from now.
AACSB Objective: Analytic Skills
Author: DS
Question Status: Previous Edition
3) In order to distinguish between inlows and outlows, diferent colors are assigned to
each of these cash lows when constructing a timeline.
AACSB Objective: Analytic Skills
Author: DS
Question Status: Previous Edition
26
4) A lender lends $10,100, which is to be repaid in annual payments of $2070 for 6 years.
Which of the following shows the timeline of the loan from the lender’s perspective?
A)
Year 1 Year 2 Year 3 Year 4 Year 5 Year 6
–
$10,100$2070 $2070 $2070 $2070 $2070
B)
Year 1 Year 2 Year 3 Year 4 Year 5 Year 6
0 $2070 $2070 $2070 $2070 $2070
C)
Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 Year 6
–
$10,100$2070 $2070 $2070 $2070 $2070 $2070
D)
Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 Year 6
–
$10,100$2070 $4070 $6070 $8070 $10,070 $12,070
AACSB Objective: Analytic Skills
Author: DS
Question Status: Previous Edition
27
5) A tenant wants to lease a building for $50,000 per year. She signs a ive-year rental
agreement that states that she will pay $25,000 every six months for the next ive years.
Which of the following is the timeline for her rental payments, assuming she makes the irst
payment immediately?
A)
Date
(years) 0 1 2 3 4 5
Cash
Flows
(thousands
) -$50 -$50 -$50 -$50 -$50 -$50
B)
Date
(years) 0 1 2 3 4 5
Cash
Flows
(thousands
) $50 $50 $50 $50 $50 $50
C)
Date
(years) 0 1 2 3 4 5 6 3 1/24 4 1/25
Cash
Flows
(thousands
) $25 $25 $25 $25 $25 $25 $25 $25 $25 $25 $25
D)
Date
(years) 0 1/2 1 1 1/22 2 1/23 3 1/24 4 1/25
Cash
Flows
(thousands
) -$25 -$25 -$25 -$25 -$25 -$25 -$25 -$25 -$25 -$25 0
AACSB Objective: Analytic Skills
Author: DS
Question Status: Previous Edition
28
6) Samantha enters a rent-to-own agreement for living room furniture. She will pay $60 per
month for one year. Which of the following shows the timeline for her payments if the irst
payment is one month from now?
A)
Date
(Months) 1 2 3 4 5 6 7 8 9 10 11 12
Cash
Flows -$60 -$60 -$60 -$60 -$60 -$60 -$60 -$60 -$60 -$60 -$60 -$60
B)
Date
(Months) 0 1 2 3 4 5 6 7 8 9 10 11 12
Cash
Flows -$60 -$60 -$60 -$60 -$60 -$60 –$60 -$60 -$60 -$60 –$60 -$60 -$60
C)
Date
(Months) 0 1 2 3 4 5 6 7 8 9 10 11 12
Cash
Flows 0 -$60 -$60 -$60 -$60 -$60 –$60 -$60 -$60 -$60 –$60 -$60 -$60
D)
Date
(Months) 0 1 2 3 4 5 6 7 8 9 10 11 12
Cash
Flows -$60 0 0 0 0 0 0 0 0 0 0 0 -$60
AACSB Objective: Analytic Skills
Author: DS
Question Status: Previous Edition
29
7) Whose cash low is best described by the timeline shown below?
Date
(years) 0 1 2 3 4
Cash
Flows -$3,500 $1,000 $1,000 $1,000 $1,000
A) Joe, who puts down $3,500 to buy a car, and then makes annual payments of $1,000
B) Harry, who borrows $3,500, and then receives an annual payment of $1,000
C) Karen, who loans a friend $3,500, which friend then pays back the loan in four annual
installments of $1,000
D) Leo, who borrows $3,500, and then pays back the loan in four annual payments of
$1,000
AACSB Objective: Analytic Skills
Author: DS
Question Status: Previous Edition
8) Which of the following situations is best described by the timeline shown below?
Date
(Months
) 0 1 2 3 4 5
Cash
Flows -$250 -$250 -$250 -$250 -$250 -$250
A) You make payments of $250 per month for six months.
B) You receive payments of $250 per month for six months.
C) You make payments of $250 per month for ive months.
D) You receive payments of $250 per month for ive months.
AACSB Objective: Analytic Skills
Author: DS
Question Status: Previous Edition
30