Bec Ch 4 Financial Risk Mgt

Question 1

What is unsystematic risk?

Answer 1

The risk that exists for one particular investment or group of investments is tech stock

Question 2

Systematic risk

Answer 2

Market factors that cannot be diversified away is fluctuations in gdp inflation

Question 3

What’s the formula for effective annual rate

Answer 3

[ 1 + r/m]4 - 1
R= stated rate
M= compounding frequency

Question 4

What is the coefficient variation and formula

Answer 4

Provides a measure of the relative variability of investments
Standard deviation / expected return

Question 5

Expectation theory of term structure of interest rates if inflation is expected to increase yield curve is

Answer 5

Upward sloping

Question 6

How are fair value hedges and cash flow hedges treated ?

Answer 6

The change in fair value of a derivative designed and qualifying as a fair value hedge is recognized in earnings and is offset by a portion of the change in fv by an asset or liability

Cash flow hedge effective portion of change reported in other comprehensive income

Question 7

What are the six stages of capital budgeting

Answer 7

Identification stage
Search stage 
Information acquisition 
Selection stage 
Financing stage
Implementation and control stage

Question 8

What is npv calculation?

Answer 8

Pv of future cash flows - required investment

Question 9

What are advantages and disadvantages of npv

Answer 9

Advantages
Present results in dollars easily understood
Adj for time value of money
Consider total profitability

Disadvantage
May not be considered simple or intuitive
Don’t take into account mgt flexibility with respect to project

Question 10

What is it

Answer 10

Dcf method determines rate of discount at which present value of future cash flows will exactly equal investment outlay

Question 11

Advantages and disadvantages of irr

Answer 11

Advantages
Adj tvm
The hurdle rate is based on market interest rates for similar investments
Results tend to be more intuitive

Disadvantage
Depending on cf there may be no unique irr
Occasionally there may be no real discount rate
Limitations when evaluating mutually exclusive investments

Question 12

What is a call option

Answer 12

Provides the company with an option to purchase stock at specified price

Question 13

What is a put option

Answer 13

Allows purchaser to sell the stock at a specified price in the future