Investment Analysis and Portfolio Management 9th Edition TestBank Chapter 1

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CHAPTER 1—THE INVESTMENT SETTING

TRUE/FALSE

Question: The rate of exchange between certain future dollars and certain current dollars is

known as the pure rate of interest.

ANSWER:

Question: An investment is the current commitment of dollars over time to derive future

payments to compensate the investor for the time funds are committed, the expected rate of

inflation and the uncertainty of future payments.

ANSWER:

Question: The holding period return (HPR) is equal to the holding period yield (HPY)

stated as a percentage.

ANSWER:

Question: The geometric mean of a series of returns is always larger than the arithmetic

mean and the difference increases with the volatility of the series.

ANSWER:

Question: The expected return is the average of all possible returns.

ANSWER:

Question: Two measures of the risk premium are the standard deviation and the variance.

ANSWER:

Question: The variance of expected returns is equal to the square root of the expected

returns.

ANSWER:

Question: The coefficient of variation is the expected return divided by the standard

deviation of the expected return.

ANSWER:

Question: Nominal rates are averages of all possible real rates.

ANSWER:

Question: The risk premium is a function of the volatility of operating earnings, sales

volatility and inflation.

ANSWER:

Question: An individual who selects the investment that offers greater certainty when

everything else is the same is known as a risk averse investor.

ANSWER:

Question: Investors are willing to forgo current consumption in order to increase future

consumption for a nominal rate of interest.

ANSWER:

Question: The basic trade-off in the investment process is

ANSWER:

Question: The rate of exchange between future consumption and current consumption is

ANSWER:

Question: The ____ the variance of returns, everything else remaining constant, the ____

the dispersion of expectations and the ____ the risk.

ANSWER:

Question: The coefficient of variation is a measure of

ANSWER:

Question: The nominal risk free rate of interest is a function of

ANSWER:

Question: In the phrase “nominal risk free rate,” nominal means

ANSWER:

Question: If a significant change is noted in the yield of a T-bill, the change is most likely

attributable to

ANSWER:

Question: The real risk-free rate is affected by a two factors:

ANSWER:

Question: Which of the following isnota component of the risk premium?

ANSWER:

Question: The ability to sell an asset quickly at a fair price is associated with

ANSWER:

Question: The variability of operating earnings is associated with

ANSWER:

Question: The uncertainty of investment returns associated with how a firm finances its

investments is known as

ANSWER:

Question: What will happen to the security market line (SML) if the following events

occur, other things constant: (1) inflation expectations increase, and (2) investors become

more risk averse?

ANSWER:

Question: A decrease in the market risk premium, all other things constant, will cause the

security market line to

ANSWER:

Question: A decrease in the expected real growth in the economy, all other things constant,

will cause the security market line to

ANSWER:

Question: Unsystematic risk refers to risk that is

ANSWER:

Question: The security market line (SML) graphs the expected relationship between

ANSWER:

Question: Two factors that influence the nominal risk-free rate are:

ANSWER:

Question: Measures of risk for an investment include

ANSWER:

Question: Sources of risk for an investment include

ANSWER:

Question: Modern portfolio theory assumes that most investors are

ANSWER:

Question: Which of the following is not a component of the required rate of return?

ANSWER:

Question: All of the following are major sources of uncertainty EXCEPT

ANSWER:

Question: The total risk for a security can be measured by its

ANSWER:

USE THE FOLLOWING INFORMATION FOR THE NEXT PROBLEM(S)

Assume you bought 100 shares of NewTech common stock on January 15, 2003 at $50.00

per share and sold it on January 15, 2004 for $40.00 per share.

NARREND

Question: Refer to Exhibit 1-1. What was your holding period return?

ANSWER:

Question: Refer to Exhibit 1-1. What was your holding period yield?

ANSWER:

USE THE FOLLOWING INFORMATION FOR THE NEXT PROBLEM(S)

Suppose you bought a GM corporate bond on January 25, 2001 for $750, on January 25,

2004 sold it for $650.00.

NARREND

Question: Refer to Exhibit 1-2. What was your annual holding period return?

ANSWER:

Question: Refer to Exhibit 1-2. What was your annual holding period yield?

ANSWER:

USE THE FOLLOWING INFORMATION FOR THE NEXT PROBLEM(S)

The common stock of XMen had the following historic prices.

NARREND

Question: Refer to Exhibit 1-3. What was your holding period return for the time period

3/1/1999 to 3/1/2004?

ANSWER:

Question: Refer to Exhibit 1-3. What was your annual holding period yield (Annual

HPY)?

ANSWER:

Question: Refer to Exhibit 1-3. What was your arithmetic mean annual yield for the

investment in XMen?

ANSWER:

Question: Refer to Exhibit 1-3. What was your geometric mean annual yield for the

investment in XMen?

ANSWER:

USE THE FOLLOWING INFORMATION FOR THE NEXT PROBLEM(S)

You have concluded that next year the following relationships are possible:

NARREND

Question: Refer to Exhibit 1-4. What is your expected rate of return [E(Ri)] for next year?

ANSWER:

Question: Refer to Exhibit 1-4. Compute the standard deviation of the rate of return for the

one year period.

ANSWER:

Question: Refer to Exhibit 1-4. Compute the coefficient of variation for your portfolio.

ANSWER:

USE THE FOLLOWING INFORMATION FOR THE NEXT PROBLEM(S)

Assume that during the past year the consumer price index increased by 1.5 percent and

the securities listed below returned the following nominal rates of return.

NARREND

Question: Refer to Exhibit 1-5. What are the real rates of return for each of these

securities?

ANSWER:

Question: Refer to Exhibit 1-5. If next year the real rates all rise by 10 percent while

inflation climbs from 1.5 percent to 2.5 percent, what will be the nominal rate of return on

each security?

ANSWER:

Question: If over the past 20 years the annual returns on the S&P 500 market index

averaged 12% with a standard deviation of 18%, what was the coefficient of variation?

ANSWER:

Question: Given investments A and B with the following risk return characteristics, which

one would you prefer and why?

ANSWER:

USE THE FOLLOWING INFORMATION FOR THE NEXT PROBLEM(S)

You are provided with the following information

Nominal return on risk-free asset = 4.5%

Expected return for asset i = 12.75%

Expected return on the market portfolio = 9.25%

NARREND

Question: Refer to Exhibit 1-6. Calculate the risk premium for asset i

ANSWER:

Question: Refer to Exhibit 1-6. Calculate the risk premium for the market portfolio

ANSWER:

USE THE FOLLOWING INFORMATION FOR THE NEXT PROBLEM(S)

Consider the following information

Nominal annual return on U.S. government T-bills for year 2000 = 3.5%

Nominal annual return on U.S government long-term bonds for year 2000 = 4.75%

Nominal annual return on U.S. large-cap stocks for year 2000 = 8.75%

Consumer price index January 1, 2000 = 165

Consumer price index December 31, 2000 = 169

NARREND

Question: Refer to Exhibit 1-7. Compute the rate of inflation for the year 2000

ANSWER:

Question: Refer to Exhibit 1-7. Calculate the real rate of return for U.S. T-bills

ANSWER:

Question: Refer to Exhibit 1-7. Calculate the real rate of return for U.S. long-term bonds

ANSWER:

Question: Refer to Exhibit 1-7. Calculate the real rate of return for U.S. large-cap stocks

ANSWER:

USE THE FOLLOWING INFORMATION FOR THE NEXT PROBLEM(S)

Assume that you hold a two stock portfolio. You are provided with the following

information on your holdings

NARREND

Question: Refer to Exhibit 1-8. Calculate the HPY for stock 1

ANSWER:

Question: Refer to Exhibit 1-8. Calculate the HPY for stock 2

ANSWER:

Question: Refer to Exhibit 1-8. Calculate the market weights for stock 1 and 2 based on

period t values

ANSWER:

Question: Refer to Exhibit 1-8. Calculate the HPY for the portfolio

ANSWER:

USE THE FOLLOWING INFORMATION FOR THE NEXT PROBLEM(S)

You purchased 100 shares of GE common stock on January 1, for $29 a share. A year later

you received $1.25 in dividends per share and you sold it for $28 a share.

NARREND

Question: Refer to Exhibit 1-9. Calculate your holding period return (HPR) for this

investment in GE stock.

ANSWER:

Question: Refer to Exhibit 1-9. Calculate your holding period yield (HPY) for this

investment in GE stock.

ANSWER:

USE THE FOLLOWING INFORMATION FOR THE NEXT PROBLEM(S)

The annual rates of return of Stock Z for the last four years are 0.10, 0.15, −0.05, and 0.20,

respectively.

NARREND

Question: Refer to Exhibit 1-10. Compute the arithmetic mean annual rate of return for

Stock Z.

ANSWER:

Question: Refer to Exhibit 1-10. Compute the standard deviation of the annual rate of

return for Stock Z.

ANSWER:

Question: Refer to Exhibit 1-10. Compute the coefficient of variation for Stock Z.

ANSWER:

Question: Refer to Exhibit 1-10. Compute the geometric mean rate of return for Stock Z.

ANSWER: