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Investments > Chapter 05 > Flashcards

Chapter 05 Flashcards

1
Q

Over the past year you earned a nominal rate of interest of 10% on your money. The inflation rate was 5% over the same period. The exact actual growth rate of your purchasing power was

A

4.8%

r = (1+R)/(1+l)-1
r = 1.10/1.05 - 1 = 4.8

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2
Q

Over the past year you earned a nominal rate of interest of 8% on your money. The inflation rate was 4% over the same period. The exact actual growth rate of your purchasing power was

A

3.8%

r = (1+R)/(1+l) - 1
r = 1.08/1.04 - 1 = 3.8

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3
Q

A year ago you invested $1,000 in a savings account that pays an annual interest rate of 9%. What is your approximate annual real rate of return if the rate of inflation was 4% over the year?

A

5%

9 - 4 = 5

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4
Q

A year ago, you invested $10,000 in a savings account that pays an annual interest rate of 5%. What is your approximate annual real rate of return if the rate of inflation was 3.5% over the year?

A

1.5%

5-3.5

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5
Q

If the annual real rate of interest is 5% and the expected inflation rate is 4%, the nominal rate of interest would be approximately

A

9%

5 + 4

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6
Q

If the annual real rate of interest is 2.5% and the expected inflation rate is 3.7%, the nominal rate of interest would be approximately

A

6.2%

2.5 + 3.7

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7
Q

You purchased a share of stock for $20. One year later you received $1 as a dividend and sold the share for $29. What was your holding-period return?

A

50%

(1+29-20)/20

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8
Q

You purchased a share of stock for $68. One year later you received $3.00 as a dividend and sold the share for $74.50. What was your holding-period return?

A

14.0%

(3+74.50-68)/68

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9
Q

Which of the following determine(s) the level of real interest rates?

I) The supply of savings by households and business firms
II) The demand for investment funds
III) The government’s net supply and/or demand for funds

A

I, II and III

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10
Q

Which of the following statement(s) is (are) true?

I) The real rate of interest is determined by the supply and demand for funds.
II) The real rate of interest is determined by the expected rate of inflation.
III) The real rate of interest can be affected by actions of the Fed.
IV) The real rate of interest is equal to the nominal interest rate plus the expected rate of inflation.

A

I and III only

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11
Q

Which of the following statement(s) is(are) true?

A

None of the options are true.

Options are: inflation has no effect on the nominal rate of interest, the realised nominal rate of interest is always greater than the real rate of interest, certificates of deposit offer a guaranteed real rate of interest

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12
Q

Other things equal, an increase in the government budget deficit

A

drives the interest rate up

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13
Q

Ceteris paribus, a decrease in the demand for loanable funds

A

drives the interest rate down

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14
Q

The holding-period return (HPR) on a share of stock is equal to

A

the capital gain yield during the period, plus the dividend yield

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15
Q

Historical records regarding return on stocks, Treasury bonds, and Treasury bills between 1926 and 2012 show that

A

stocks offered investors greater rates of return than bonds and bills

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16
Q

If the interest rate paid by borrowers and the interest rate received by savers accurately reflect the realised rate of inflation,

A

neither borrowers nor savers gain nor lose

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17
Q

You have been given this probability distribution fo the holding-period return for KMP stock:

State of the Economy - Probability - HPR
Boom - 0.30 - 18%
Normal Growth - 0.50 - 12%
Recession - 0.20 - -5%

What is the expected holding-period return for KMP stock?

A

10.40%

HPR = 0.30(18%) + 0.50(12%) = 0.20(-5%)

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18
Q

You have been given this probability distribution fo the holding-period return for KMP stock:

State of the Economy - Probability - HPR
Boom - 0.30 - 18%
Normal Growth - 0.50 - 12%
Recession - 0.20 - -5%

What is the expected standard deviation for KMP stock?

A

8.13%

s = [0.30 (18-10.4)^2 + 0.50 (12-10.4)^2 + 0.20 (-5 - 10.4)^2]^0.5

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19
Q

You have been given this probability distribution fo the holding-period return for KMP stock:

State of the Economy - Probability - HPR
Boom - 0.30 - 18%
Normal Growth - 0.50 - 12%
Recession - 0.20 - -5%

What is the expected variance for KMP stock?

A

66.04%

Variance = [0.30 (18-10.4)^2 + 0.50 (12-10.4)^2 + 0.20(-5-10.4)^2]

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20
Q

If the nominal return is constant, the after-tax real rate of return

A

declines as the inflation rate increases and increases as the inflation rate decreases

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21
Q

The risk premium for common stocks

A

cannot be zero, for investors would be unwilling to invest in common stocks and must always be positive, in theory

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22
Q

If a portfolio had a return of 18%, the risk-free asset return was 5%, and the standard deviation of the portfolio’s excess returns was 34%, the risk premium would be

A

13%

18-5

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23
Q

You purchase a share of Boeing stock for $90. One year later, after received a dividend of $3, you sell the stock for $92. What was your holding-period return?

A

5.56%

HPR = (92-90+3)/90

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24
Q

Toyota stock has the following probability distribution of expected prices on year from now:

State - Probability - Price
1 - 25% - $50
2 - 40% - $60
3 - 35% - $70

If you buy Toyota today for $55 and it will pay a dividend during the year of $4 per share, what is your expected holding-period return on Toyota?

A

18.18%

E(P) = 0.25(54/55-1) + 0.40(64/55-1) + 0.35 (74/55-1) = 18.18

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25
Q

Which of the following factors would not be expected to affect the nominal interest rate?

A

The coupon rate on previously issued government bonds

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26
Q

If a portfolio had a return of 11%, the risk-free asset return was 6%, and the standard deviation of the portfolio’s excess returns was 25%, the risk premium would be

A

5%

11-6

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27
Q

In words, the real rate of interest is approximately equal to

A

the nominal rate minus the inflation rate

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28
Q

If the Federal Reserve lowers the discount rate, ceteris paribus, the equilibrium levels of funds lent will … and the equilibrium level of real interest rates will …

A

increase; decrease

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29
Q

What has been the relationship between T-Bill rates and inflation rates since the 1980s?

A

The T-bill rate has been higher than the inflation rate almost the entire period

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30
Q

“Bracket Creep” happens when

A

tax liabilities are based on nominal income and there is a positive inflationrate

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31
Q

The holding-period return (HPR) for a stock is equal to

A

the dividend yield plus the capital gains yield

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32
Q

You have been given this probability distribution for the holding-period return for Cheese, Inc. stock

State of Economy - Probability - HPR
Boom - 0.20 - 24%
Normal Growth - 0.45 - 15.%
Recession - 0.35 - 8%

Assuming that the expected return on Cheese’s stock is 14.35%, what is the standard deviation of these returns?

A

5.74%

Variance = 0.20 x (24-14.35)^2 + 0.45 x (15-14.35)^2 + 0.35 x (8-14.35)^2 = 32.9275

Standard Deviation = 32.9275^0.5

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33
Q

An investor purchased a bond 45 days ago for $985. He received $15 in interest and sold the bond for $980. What is the holding-period return on his investment?

A

1.02%

HPR = (15 + 980 - 985) / 985

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34
Q

An investor purchased a bond 63 days ago for $980. He received $17 in interest and sold the bond for $987. What is the holding-period return on his investment?

A

2.45%

HPR = (17+987 - 980)/980

35
Q

Over the past year you earned a nominal rate of interest of 8% on your money. The inflation rate was 3.5% over the same period. The exact actual growth rate of you repurchasing power was

A

4.35%

r = (1+R)/(1+l)-1
r = 1.08/1.035 - 1

36
Q

Over the past year you earned a nominal rate of interest of 14% on your money. The inflation rate was 2% over the same period. The exact actual growth rate of your purchasing power was

A

11.76%

r = (1+R)/(1+l)-1
r = 1.14 / 1.02 -1

37
Q

Over the past year you earned a nominal rate of interest of 12.5% on your money. The inflation rate was 2.6% over the same period. The exact actual growth rate of your purchasing power was

A

9.65%

r = (1+R)/(1+l)-1
r = 1.125 / 1.026 -1

38
Q

A year ago, you invested $1,000 in a savings account that pays an annual interest rate of 6%. What is your approximate annual real rate of return if the rate of inflation was 2% over the year?

A

4%

6 - 2

39
Q

A year ago, you invested $10,000 in a savings account that pays an annual interest rate of 3%. What is your approximate annual real rate of return if the rate of inflation was 4% over the year?

A

-1%

3-4

40
Q

A year ago, you invested $10,000 in a savings account that pays an annual interest rate of 3%. What is your approximate annual real rate of return if the rate of inflation was 4% over the year?

A

-1%

\3-4

41
Q

A year ago, you invested $2,500 in a savings account that pays an annual interest rate of 5.7%. What is your approximate annual real rate of return if the rate of inflation was 1.6% over the year?

A

4.1%

5.7-1.6

42
Q

A year ago, you invested $2,500 in a savings account that pays an annual interest rate of 2.5%. What is your approximate annual real rate of return if the rate of inflation was 3.4% over the year?

A

-0.9%

2.5-3.4

43
Q

A year ago, you invested $12,000 in an investment that produced a return of 18%. What is your approximate annual real rate of return if the rate of inflation was 2% over the year?

A

16%

18-2

44
Q

If the annual real rate of interest is 3.5% and the expected inflation rate is 2.5%, the nominal rate of interest would be approximately

A

None of the options

3.5+2.5 = 6

45
Q

If the annual rate of interest is 2.5% and the expected inflation rate is 3.4%, the nominal rate of interest would be approximately

A

None of the options

2.5 + 3.4 = 5.9%

46
Q

If the annual real rate of interest is 4% and the expected inflation rate is 3%, the nominal rate of interest would be approximately

A

None of the options

4 + 3 = 7%

47
Q

You purchased a share of stocks for $12. One year later you received $0.25 as a dividend and sold the share of $12.92. What was your holding-period return?

A

9.75%

(0.25 + 12.92 - 12)/12

48
Q

You purchased a share of stock for $120. One year later you received $1.82 as a dividend and sold the share for $136. what was your holding-period return?

A

None of the options

(1.82 + 136 - 120)/120

49
Q

You purchased a share of stock for $65. One year later you received $2.37 as a dividend and sold the share for $63. What was your holding-period return?

A

0.57%

(2.37 + 63 - 65)/65

50
Q

You have been given this probability distribution for the holding-period return for a stock:

State of the Economy - Probability - HPR

Boom - 0.40 - 22%
Normal Growth - 0.35 - 11%
Recession - 0/25 0 -9%

What is the expected holding period return for the stock?

A

None of the options

0.40(22%) + 0.35(11%) + 0.25(-9%) = 10.4%

51
Q

You have been given this probability distribution for the holding-period return for a stock:

State of the Economy - Probability - HPR

Boom - 0.40 - 22%
Normal Growth - 0.35 - 11%
Recession - 0/25 0 -9%

What is the expected standard deviation for the stock?

A

None of the options

[0.40(22-10.4)^2 + 0.35(11-10.4)^2 + 0.25(-9-10.4)^2]^0.5 = 12.167%

52
Q

You have been given this probability distribution for the holding-period return for a stock:

State of the Economy - Probability - HPR

Boom - 0.40 - 22%
Normal Growth - 0.35 - 11%
Recession - 0/25 0 -9%

What is the expected variance for the stock?

A

None of the options

Variance = [0.40(22-10/4)^2 + 0.35(11-10.4)^2 + 0.25(-9-10.4)^2] = 148.04%

53
Q

Which of the following measures of risk best highlights the potential loss from extreme negative returns?

A

Value at Risk (VaR)

54
Q

Over the past year you earned a nominal rate of interest of 3.6% on your money. The inflation rate was 3.1% over the same period. The exact actual growth rate of your purchasing power was

A

0.48%

r = (1+R)/(1+l)-1
1.036/1.031 - 1 =0.484%

55
Q

A year ago you invested $1000 in a savings account that pays an annual interest rate of 4.3%. What is your approximate annual real rate of return if the rate of inflation was 3% over the year?

A

None of the options

4.3-3 = 1.3%

56
Q

If the annual real rate of interest is 3.5% and the expected inflation rate is 3.5%, the nominal rate of interest would be approximately

A

7%

3.5 + 3.5

57
Q

You purchased a share of CSCO stock for $20. One year later you received $2 as a dividend and sold the share for $31. What was your holding-period return?

A

None of the options

(2+31-20)/20 = 65%

58
Q

You have been given this probability distribution for the holding-period return for GM stock:

State of the Economy - Probability - HPR

Boom - 0.40 - 30%
Normal Growth - 0.40 - 11%
Recession - 0.20 - -10%

What is the expected holding-period return for GM stock?

A

14.4%

HPR = 0.40(30%) + 0.40(11%) + 20(-10%) = 14.4

59
Q

You have been given this probability distribution for the holding-period return for GM stock:

State of the Economy - Probability - HPR

Boom - 0.40 - 30%
Normal Growth - 0.40 - 11%
Recession - 0.20 - -10%

What is the expected standard deviation for GM stock?

A

14.87%

[0.40(30-14.4)^2 + 0.40(11-14.4)^2 + 0.20(-10-14.4)^2]^0.5

60
Q

You have been given this probability distribution for the holding-period return for GM stock:

State of the Economy - Probability - HPR

Boom - 0.40 - 30%
Normal Growth - 0.40 - 11%
Recession - 0.20 - -10%

What is the expected variance for GM stock?

A

221.04%

[0.40(30-14.4)^2 + 0.40(11-14.4)^2 + 0.20(-10-14.4)^2]

61
Q

You purchase a share of CAT stock for $90. One year later, after receiving a dividend of $4, you sell the stock for $97. What was your holding-period return?

A

12.22%

(97-90+4)/90

62
Q

When comparing investments with different horizons, the … provides the more accurate comnparison

A

effective annual rate

63
Q

Annual percentage rates (APRs) are computed using

A

simple interest

64
Q

An investment provides a 2% return semi-annually, its effective annual rate is

A

4.04%

(1.02)^2 - 1

65
Q

If an investment provides a 1.25% return quarterly, its effective annual rate is

A

5.09%

(1.0125)^4 - 1

66
Q

If an investment provides a 0.78% return monthly, its effective annual rate is

A

9.77%

(1.0078)^12 - 1

67
Q

If an investment provides a 3% return semi-annually, its effective annual rate is

A

6.09%

(1.03)^2 - 1

68
Q

If an investment provides a 2.1% return quarterly, its effective annual rate is

A

8.67%

(1.021)^4 - 1

69
Q

Skewness is a measure of

A

the normality of a distribution

70
Q

Kurtosis is a measure of

A

how fat the tails of a distribution are and the normality of a distribution

71
Q

When a distribution is positively skewed,

A

standard deviation overestimates risk

72
Q

When a distribution is negatively skewed,

A

standard deviation underestimates risk

73
Q

If a distribution has “fat tails,” it exhibits

A

kurtosis

74
Q

If a portfolio had a return of 8%, the risk-free asset return was 3%, and the standard deviation of the portfolio’s excess returns was 20%, the Sharpe measure would be

A

0.25

(8-3)/20

75
Q

If a portfolio had a return of 12%, the risk-free asset return was 4$, and the standard deviation of the portfolio’s excess returns was 25%, the Sharpe measure would be

A

0.32

(12-4)/25

76
Q

If a portfolio had a return of 15%, the risk-free asset return was 5%, and the standard deviation of the portfolio’s excess returns was 30%, the Sharpe measure would be

A

0.33

(15-5)/30

77
Q

If a portfolio had a return of 12%, the risk-free asset return was 4%, and the standard deviation of the portfolio’s excess returns was 25%, the risk premium would be

A

8%

12-4

78
Q

… is a risk measure that indicates vulnerability to extreme negative returns.

A

Value at risk and lower partial standard deviation

79
Q

… is a risk measure that indicates vulnerability to extreme negative returns

A

All of the options

Options include: Value at risk, Lower partial standard deviation, Expected shortfall, None of the options

80
Q

The most common measure of loss associated with extremely negative returns is

A

value at risk

81
Q

Practitioners often use a …% VaR, meaning that …% of returns will exceed the VaR, and …% will be worse

A

5, 95, 5

82
Q

When assessing tail risk by looking at the 5% worst-case scenario, the VaR is the

A

most optimistic as it takes the highest return (smallest lost) of all the cases

83
Q

When assessing tail risk by looking at the 5% worst-case scenario, the most realistic view of downside exposure would be

A

expected shortfall and conditional tail expectation

Investments (14 decks)

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