Chapter 3: Risk and Rates of Return

Question 1

may be in the form of money, services, or merchandise

Answer 1

return

Question 2

two sources of return

Answer 2

1. Flow of Income
2. Capital Appreciation

Question 3

when a person invests in stocks whose price subsequently increases

Answer 3

Capital Appreciation

Question 4

is the occurrence or non-occurence of an event

Answer 4

Probability

Question 5

if all the possible outcomes are considered and a probability is taken into consideration for each possible outcome

Answer 5

Probability Distribution

Question 6

it is the return made after the probabilities of occurence, state of the economy and the individual’s expected outcomes are considered

Answer 6

Expected Return

Question 7

it is a collection of investment which are all owned by a single individual or a firm

Answer 7

Portfolio

Question 8

way of avoiding risk

Answer 8

Portfolio Investment

Question 9

it is computed by obtaining weighted average return of the individual assets

Answer 9

Portfolio Expected Return

Question 10

relationship between risk and return

Answer 10

Fundamental Idea in Finance

Question 11

it is the exposure to uncertainty or danger resulting in changes in the expected return in a given investment

Answer 11

Risk

Question 12

indicates a high degree of risk

Answer 12

High Standard Deviation

Question 13

Classifications of Risk

Answer 13

a. Systematic Risk
b. Unsystematic Risk

Question 14

sometimes called non-controllable or undiversifiable risk

Answer 14

Systematic Risk

Question 15

sometimes called controllable or diversifiable risk

Answer 15

Unsystematic Risk

Question 16

examples of systematic risk

Answer 16

1. Currency Risk
2. Equity Risk
3. Inflation Risk
4. Country Risk
5. Interest Rate Risk
6. Purchasing Power Risk
7. Event Risk

Question 17

examples of unsystematic risks

Answer 17

1. Principal Risk
2. Credit Risk
3. Liquidity Risk
4. Call Risk
5. Business Risk

Question 18

used measure of votality which shows how much variation exists from the average return of an investment

Answer 18

Standard Deviation

Question 19

steps in computing the standard deviation

Answer 19

1. Multiply the expected individual return by the probabilty distribution.
2. Subtract the expected average return from the return.
3. Square the difference.
4. Mutiply the squared difference and multiply the product by the probability distribution.
5. Square the result in step 4.

Question 20

it is a statistical measure of the distribution of the data points in a data series around the mean

Answer 20

Coefficient of Variation

Question 21

it is associated with the total risk of portfolio which consists of systematic and unsystematic risks

Answer 21

Portfolio Risk

Question 22

measures the degree of relationship between the assets in the portfolio

Answer 22

Correlation Coefficient

Question 23

it is computed as the weighted average of the beta of all the individual assets in a portfolio

Answer 23

Portfolio Beta

Question 24

Requisites of Mortgage Contract

Answer 24

1.The mortgage is constituted to secure the fulfillment of obligation.
2. The absolute owner of the property to be mortgaged is the mortgator himself/herself.
3. The mortgagor has the face disposal of the asset to be mortgaged.

Question 25

it is a long-term debt in which the corporation that issued the bonds owes the bondholders a debt and is obliged to repay the principal at its face value on the maturity date or to make periodic interest payments until the principal is paid

Answer 25

Bond

Question 26

features of a bond issue

Answer 26

1. A bond indenture or deed of trust is a detailed document which contains the essential information regarding the bond issued.
2. A bond certificate which represents a portion of the total loan is used.
3. If property is pledged as a security for the bond iasue, a trustee who will hold the title to the property serving as the security is identified.
4. A bank or trust company is appointed as the registar or disbursing agent.

Question 27

it is sometimes called a deep of trust

Answer 27

Bond Indenture

Question 28

possible provisions in a bond indenture

Answer 28

1. Details of the terms of the bonds issued
2. Covenants
3. Call Provision
4. Conversion Provision
5. Retirement Provision
6. Sinking-Fund Provision

Question 29

details of the terms of the bond issued

Answer 29

1. Nominal rate or principal or face amount of the bond issuance
2. Issue Price
3. Maturity Date

Question 30

length of time from the start-up to the maturity date

Answer 30

Term or Maturity of a Bond

Question 31

part of bond indentures that restricts certain actions of issuer, e.g., incurring additional obligations

Answer 31

Covenants

Question 32

two types of covenants

Answer 32

1. Protective Covenants
2. Negative Covenants

Question 33

state the actions or conditions which a company should do

Answer 33

Protective Covenants

Question 34

state the actions or conditions which a company should not do

Answer 34

Negative Covenants

Question 35

example of protective covenant

Answer 35

1. Specified working capital ratio or a specified level of working capital
2. Accounting Records
3. Security

Question 36

it is the agreement as regards the nominal rate to be used when computing the interest and principal to be paid on the maturity date

Answer 36

Nominal Rate or Principal or Face Amount of the Bond Issuance

Question 37

it is the price which investors can buy the bonds when they are first issued

Answer 37

Issue Price

Question 38

the date on which the issuer has to repay the nominal amount

Answer 38

Maturity Date

Question 39

it is also called as exchange rate risk

Answer 39

Currency Risk

Question 40

also called as a default risk

Answer 40

Credit Risk