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Exam
Name___________________________________
MULTIPLE CHOICE. Choose the one alternative that best completes the statement or answers the question.
Use the table for the question(s) below.
Consider the following realized annual returns:
Year End
S&P 500
Realized
Return
IBM
Realized
Return
1996 23.6% 46.3%
1997 24.7% 26.7%
1998 30.5% 86.9%
1999 9.0% 23.1%
2000 -2.0% 0.2%
2001 -17.3% -3.2%
2002 -24.3% -27.0%
2003 32.2% 27.9%
2004 4.4% -5.1%
2005 7.4% -11.3%
1)
Suppose that you want to use the 10 year historical average return on the S&P 500 to forecast the
expected future return on the S&P 500. The standard error of your estimate of the expect return is
closest to:
1)
A)
3.8%
B)
19.4%
C)
8.8%
D)
1.95%
Use the information for the question(s) below.
Consider an economy with two types of firms, S and I. S firms always move together, but I firms move independently of each
other. For both types of firms there is a 70% probability that the firm will have a 20% return and a 30% probability that the
firm will have a -30% return.
2)
The standard deviation for the return on an individual firm is closest to:
2)
A)
10.0%
B)
23.0%
C)
15.0%
D)
5.25%
3)
Which of the following is not a diversifiable risk?
3)
A)
The risk that oil prices rise, increasing production costs
B)
The risk of a product liability lawsuit
C)
The risk of a key employee being hired away by a competitor
D)
The risk that the CEO is killed in a plane crash
4)
Which of the following statements is false?
4)
A)
Because diversification improves with the number of stocks held in a portfolio an efficient
portfolio should be a large portfolio containing many different stocks.
B)
We call a portfolio that contains only unsystematic risk an efficient portfolio.
C)
An efficient portfolio cannot be diversified further, that is there is no way to reduce the risk of
the portfolio without lowering its expected return.
D)
The beta of a security is the sensitivity of the security's return to the return of the overall
market.
2
Use the information for the question(s) below.
Suppose that in the coming year, you expect Exxon-Mobil stick to have a volatility of 42% and a beta of 0.9, and Merck's
stock to have a volatility of 24% and a beta of 1.1. The risk free interest rate is 4% and the markets expected return is 12%.
5)
Which stock has the highest total risk?
5)
A)
Merck since it has a lower volatility
B)
Exxon-Mobil since it has a lower beta
C)
Merck since it has a higher Beta
D)
Exxon-Mobil since it has a higher volatility
Use the information for the question(s) below.
Big Cure and Little Cure are both pharmaceutical companies. Big Cure presently has a potential "blockbuster" drug before
the Food and Drug Administration (FDA) waiting for approval. If approved, Big Cure's blockbuster drug will produce $1
billion in net income for Big Cure. Little Cure has 10 separate less important drugs before the FDA waiting for approval. If
approved, each of Little Cure's drugs would produce $100 million in net income for Little Cure. The probability of the FDA
approving a drug is 50%.
6)
What is the expected payoff for Little Cure's ten drugs?
6)
A)
$0
B)
$100 million
C)
$500 million
D)
$1 billion
3
Use the table for the question(s) below.
Consider the following realized annual returns:
Year End
S&P 500
Realized
Return
IBM
Realized
Return
1996 23.6% 46.3%
1997 24.7% 26.7%
1998 30.5% 86.9%
1999 9.0% 23.1%
2000 -2.0% 0.2%
2001 -17.3% -3.2%
2002 -24.3% -27.0%
2003 32.2% 27.9%
2004 4.4% -5.1%
2005 7.4% -11.3%
7)
The standard deviation of the returns on the S&P 500 from 1996 to 2005 is closest to:
7)
A)
19.5%
B)
8.8%
C)
20.5%
D)
3.8%
4
8)
Which of the following investments had the largest fluctuations overall return over the past eighty
years?
8)
A)
Small stocks
B)
Treasury Bills
C)
S&P 500
D)
Corporate Bonds
9)
Suppose an investment is equally likely to have a 35% return or a - 20% return. The expected
return for this investment is closest to:
9)
A)
10%
B)
15%
C)
5%
D)
7.5%
5
Use the table for the question(s) below.
Consider the following Price and Dividend data for Ford Motor Company:
Date Price ($) Dividend ($)
December 31, 2004 $14.64
January 26, 2005 $13.35 $0.10
April 28, 2005 $9.14 $0.10
July 29, 2005 $10.74 $0.10
October 28, 2005 $8.02 $0.10
December 30, 2005 $7.72
10)
Assume that you purchased Ford Motor Company stock at the closing price on December 31, 2004
and sold it at the closing price on December 30, 2005. Your realized annual return is for the year
2005 is closest to:
10)
A)
-45.1%
B)
-48.5%
C)
-44.5%
D)
-47.3%
6
Use the table for the question(s) below.
Consider the following realized annual returns:
Year End
S&P 500
Realized
Return
IBM
Realized
Return
1996 23.6% 46.3%
1997 24.7% 26.7%
1998 30.5% 86.9%
1999 9.0% 23.1%
2000 -2.0% 0.2%
2001 -17.3% -3.2%
2002 -24.3% -27.0%
2003 32.2% 27.9%
2004 4.4% -5.1%
2005 7.4% -11.3%
11)
Suppose that you want to use the 10 year historical average return on IBM to forecast the expected
future return on IBM. The 95% confidence interval for your estimate of the expect return is closest
to:
11)
A)
10.1% to 22.7%
B)
6.5% to 26.3%
C)
-15.1% to 47.8%
D)
13.2% to 19.5%
7
12)
Which of the following statements is false?
12)
A)
Because investors are risk averse, they will demand a risk premium to hold unsystematic risk.
B)
The risk premium for diversifiable risk is zero, so investors are not compensated for holding
firm-specific risk.
C)
Because investors can eliminate firm-specific risk "for free" by diversifying their portfolios,
they will not require a reward or risk premium for holding it.
D)
Over any given period, the risk of holding a stock is that the dividends plus the final stock
price will be higher or lower than expected, which makes the realized return risky.
Use the information for the question(s) below.
Suppose that in the coming year, you expect Exxon-Mobil stick to have a volatility of 42% and a beta of 0.9, and Merck's
stock to have a volatility of 24% and a beta of 1.1. The risk free interest rate is 4% and the markets expected return is 12%.
13)
Which stock has the highest systematic risk?
13)
A)
Merck since it has a lower volatility
B)
Exxon-Mobil since it has a lower beta
C)
Merck since it has a higher Beta
D)
Exxon-Mobil since it has a higher volatility
14)
Suppose that KAN's Beta is 1.5. If the market risk premium is 8% and the risk-free interest rate is
4%, then then expected return for KAN stock is?
14)
A)
16.0%
B)
10.0%
C)
8.0%
D)
13.5%
8
Use the information for the question(s) below.
Suppose the market portfolio's excess return tends to increase by 30% when the economy is strong and decline by 20% when
the economy is weak. A type S firm has excess returns increase by 45% when the economy is strong and decrease by 30%
when the economy is weak. A type I firm will also have excess returns of either 45% or -30%, but the type I firm's excess
returns will depend only upon firm-specific events and will be completely independent of the state of the economy.
15)
What is the Beta for a type S firm?
15)
A)
1.5
B)
0.75
C)
1.0
D)
0.0
16)
Which of the following statements is false?
16)
A)
The CAPM states that the cost of capital depends only on systematic risk.
B)
If the market portfolio were not efficient, investors could find strategies that would "beat the
market" with higher average returns and lower risk.
C)
Efficient capital markets is a much stronger hypothesis than the CAPM.
D)
The market portfolio is an efficient portfolio.
17)
Suppose an investment is equally likely to have a 35% return or a - 20% return. The variance on
the return for this investment is closest to:
17)
A)
.075
B)
.0378
C)
.151
D)
0
9
18)
Which of the following statements is false?
18)
A)
The portfolio that contains all shares of all stocks and securities in the market is called the
efficient portfolio.
B)
Because it is difficult to find data for the returns of many bonds and small stocks, it is
common practice to use the S&P 500 portfolio as a proxy for the market portfolio, under the
assumption that the S&P 500 is large enough to be essentially fully diversified.
C)
The market portfolio is an efficient portfolio.
D)
We can measure the systematic risk of a security's return by its beta.
Use the table for the question(s) below.
Consider the following average annual returns:
Investment Average Return
Small Stocks 23.2%
S&P 500 13.2%
Corporate Bonds 7.5%
Treasury Bonds 6.2%
Treasury Bills 4.8%
19)
What is the excess return for Corporate Bonds?
19)
A)
1.3%
B)
-5.7%
C)
0%
D)
2.7%
10
Use the information for the question(s) below.
Big Cure and Little Cure are both pharmaceutical companies. Big Cure presently has a potential "blockbuster" drug before
the Food and Drug Administration (FDA) waiting for approval. If approved, Big Cure's blockbuster drug will produce $1
billion in net income for Big Cure. Little Cure has 10 separate less important drugs before the FDA waiting for approval. If
approved, each of Little Cure's drugs would produce $100 million in net income for Little Cure. The probability of the FDA
approving a drug is 50%.
20)
The standard deviation of Little Cure's average net income for their ten new drugs is closest to:
20)
A)
$500 million
B)
$50 million
C)
$16 million
D)
$25 million
21)
If a stock pays dividends at the end of each quarter, with realized returns of R1, R2, R3, and R4
each quarter, then the annual realized return is calculated as
21)
A)
Rannual = (1 +R1)(1 +R2)(1 + R3)(1 +R4) - 1
B)
Rannual =R1+R2+R3+R4
C)
Rannual = (1 +R1)(1 +R2)(1 + R3)(1 +R4)
D)
Rannual =
R1+R2+R3+R4
4
22)
Which of the following statements is false?
22)
A)
Firms are affected by both systematic and firm-specific risk.
B)
When firms carry both types of risk, only the firm-specific risk will be diversified when we
combine many firms' stocks into a portfolio.
C)
The risk premium for a stock is affected by its idiosyncratic risk.
D)
Firm specific new is good or bad news about the company itself.
11
Use the table for the question(s) below.
Consider the following Price and Dividend data for Ford Motor Company:
Date Price ($) Dividend ($)
December 31, 2004 $14.64
January 26, 2005 $13.35 $0.10
April 28, 2005 $9.14 $0.10
July 29, 2005 $10.74 $0.10
October 28, 2005 $8.02 $0.10
December 30, 2005 $7.72
23)
Assume that you purchased Ford Motor Company stock at the closing price on December 31, 2004
and sold it after the dividend had been paid at the closing price on January 26, 2005. Your capital
gains rate (yield) for this period is closest to:
23)
A)
-8.80%
B)
0.70%
C)
-8.15%
D)
0.75%
Use the information for the question(s) below.
Suppose that in the coming year, you expect Exxon-Mobil stick to have a volatility of 42% and a beta of 0.9, and Merck's
stock to have a volatility of 24% and a beta of 1.1. The risk free interest rate is 4% and the markets expected return is 12%.
24)
The cost of capital for a project with the same beta as Exxon Mobil's stock is closest to:
24)
A)
11.2%
B)
12.8%
C)
7.6%
D)
11.6%
25)
Which of the following statements is false?
25)
A)
The 95% confidence interval for the expected return is defined as the Historical Average
Return plus or minus three standard errors.
B)
We can use a security's historical average return to estimate its actual expected return.
C)
The standard error is the standard deviation of the average return.
D)
The standard error provides an indication of how far the sample average might deviate from
the expected return.
12
26)
Which of the following types of risk doesn't belong?
26)
A)
Idiosyncratic risk
B)
Market risk
C)
Undiversifiable risk
D)
Systematic risk
Use the table for the question(s) below.
Consider the following realized annual returns:
Year End
S&P 500
Realized
Return
IBM
Realized
Return
1996 23.6% 46.3%
1997 24.7% 26.7%
1998 30.5% 86.9%
1999 9.0% 23.1%
2000 -2.0% 0.2%
2001 -17.3% -3.2%
2002 -24.3% -27.0%
2003 32.2% 27.9%
2004 4.4% -5.1%
2005 7.4% -11.3%
27)
The average annual return on the S&P 500 from 1996 to 2005 is closest to:
27)
A)
9.75%
B)
4.00%
C)
7.10%
D)
8.75%
Use the table for the question(s) below.
Consider the following average annual returns:
Investment Average Return
Small Stocks 23.2%
S&P 500 13.2%
Corporate Bonds 7.5%
Treasury Bonds 6.2%
Treasury Bills 4.8%
28)
What is the excess return for Treasury Bills?
28)
A)
-8.4%
B)
-2.7%
C)
0%
D)
-1.4%
29)
What is the excess return for the portfolio of small stocks?
29)
A)
10.0%
B)
15.7%
C)
17.0%
D)
18.4%
14
30)
Which of the following statements is false?
30)
A)
In exchange for bearing systematic risk, investors want to be compensated by earning a
higher return.
B)
When evaluating the risk of an investment, an investor will care about its systematic risk,
which cannot be eliminated through diversification.
C)
A key step to measuring systematic risk is finding a portfolio that contains only unsystematic
risk.
D)
To measure the systematic risk of a stock, we must determine how much of the variability of
its return is due to systematic, market-wide risks versus diversifiable, firm specific risks.
Use the information for the question(s) below.
Consider an economy with two types of firms, S and I. S firms always move together, but I firms move independently of each
other. For both types of firms there is a 70% probability that the firm will have a 20% return and a 30% probability that the
firm will have a -30% return.
31)
The standard deviation for the return on an portfolio of 20 type I firms is closest to:
31)
A)
15.0%
B)
5.10%
C)
5.25%
D)
23.0%
32)
Which of the following statements is false?
32)
A)
The largest stocks are typically more volatile than a portfolio of large stocks.
B)
Investors would not choose to hold a portfolio that is more volatile unless they expected to
earn a higher return.
C)
Expected return should rise proportionately with volatility.
D)
Smaller stocks have lower volatility than larger stocks.
15
Use the table for the question(s) below.
Consider the following realized annual returns:
Year End
S&P 500
Realized
Return
IBM
Realized
Return
1996 23.6% 46.3%
1997 24.7% 26.7%
1998 30.5% 86.9%
1999 9.0% 23.1%
2000 -2.0% 0.2%
2001 -17.3% -3.2%
2002 -24.3% -27.0%
2003 32.2% 27.9%
2004 4.4% -5.1%
2005 7.4% -11.3%
33)
The geometric average annual return on IBM from 1996 to 2005 is closest to:
33)
A)
16.7%
B)
13.2%
C)
17.8%
D)
12.4%
34)
Which of the following types of risk doesn't belong?
34)
A)
Unique risk
B)
Idiosyncratic risk
C)
Market risk
D)
Unsystematic risk
16
Use the table for the question(s) below.
Consider the following realized annual returns:
Year End
S&P 500
Realized
Return
IBM
Realized
Return
1996 23.6% 46.3%
1997 24.7% 26.7%
1998 30.5% 86.9%
1999 9.0% 23.1%
2000 -2.0% 0.2%
2001 -17.3% -3.2%
2002 -24.3% -27.0%
2003 32.2% 27.9%
2004 4.4% -5.1%
2005 7.4% -11.3%
35)
The geometric average annual return on the S&P 500 from 1996 to 2005 is closest to:
35)
A)
8.75%
B)
7.10%
C)
8.35%
D)
9.75%
Use the table for the question(s) below.
Consider the following Price and Dividend data for Ford Motor Company:
Date Price ($) Dividend ($)
December 31, 2004 $14.64
January 26, 2005 $13.35 $0.10
April 28, 2005 $9.14 $0.10
July 29, 2005 $10.74 $0.10
October 28, 2005 $8.02 $0.10
December 30, 2005 $7.72
36)
Assume that you purchased Ford Motor Company stock at the closing price on December 31, 2004
and sold it after the dividend had been paid at the closing price on January 26, 2005. Your total
return rate (yield) for this period is closest to:
36)
A)
-8.15%
B)
0.70%
C)
0.75%
D)
-8.80%
17
37)
Which of the following statements is false?
37)
A)
The risk premium investors can earn by holding the market portfolio is the difference
between the market portfolio's expected return and the risk-free interest rate.
B)
If we assume that the market portfolio (or the S&P 500) is efficient, then changes in the value
of the market portfolio represent unsystematic shocks to the economy.
C)
Stocks in cyclical industries, in which revenues tend to vary greatly over the business cycle,
are likely to be more sensitive to systematic risk and have higher betas than stocks in less
sensitive industries.
D)
Beta differs from volatility.
18
Use the table for the question(s) below.
Consider the following realized annual returns:
Year End
S&P 500
Realized
Return
IBM
Realized
Return
1996 23.6% 46.3%
1997 24.7% 26.7%
1998 30.5% 86.9%
1999 9.0% 23.1%
2000 -2.0% 0.2%
2001 -17.3% -3.2%
2002 -24.3% -27.0%
2003 32.2% 27.9%
2004 4.4% -5.1%
2005 7.4% -11.3%
38)
The variance of the returns on IBM from 1996 to 2005 is closest to:
38)
A)
.0990
B)
.9890
C)
.3145
D)
.1100
19
39)
The excess return if the difference between the average return on a security and the average return
for
39)
A)
Treasury Bills.
B)
a broad based market portfolio like the S&P 500 index.
C)
Treasury Bonds.
D)
a portfolio of securities with similar risk.
40)
Suppose an investment is equally likely to have a 35% return or a -20% return. The standard
deviation on the return for this investment is closest to:
40)
A)
0%
B)
19.4%
C)
38.9%
D)
27.5%
20
