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fundamentals of investing

Questions and Answers of Fundamentals Of Investing

LG4 Understand the different kinds of common stock values.
LG3 Discuss the basic features of common stocks, including issue characteristics, stock quotations, and transaction costs.
LG2 Describe stock returns from a historical perspective and understand how current returns measure up to historical standards of performance.
LG1 Explain the investment appeal of common stocks and why individuals like to invest in them.
LG1 Understand portfolio objectives and the procedures used to calculate portfolio return and standard deviation.
LG2 Discuss the concepts of correlation and diversification, and the key aspects of international diversification.
LG3 Describe the components of risk and the use of beta to measure risk.
LG4 Explain the capital asset pricing model (CAPM)-conceptually, mathematically, and graphically.
LG5 Review the traditional and modern approaches to portfolio management.
LG6 Describe portfolio betas, the risk-return tradeoff, and reconciliation of the two approaches to portfolio management.
5.1 What is an efficient portfolio, and what role should such a portfolio play in investing?
5.2 How can the return and standard deviation of a portfolio be determined? Compare the portfolio standard deviation calculation to that for a single asset.
5.3 What is correlation, and why is it important with respect to asset returns? Describe the characteristics of returns that are (a) positively correlated, (b) negatively correlated, and (c)
5.5 Discuss how the correlation between asset returns affects the risk and return behavior of the resulting portfolio. Describe the potential range of risk and return when the correlation between two
5.7 Briefly define and give examples of each of the following components of total risk. Which is the relevant risk, and why?a. Diversifiable riskb. Nondiversifiable risk
5.8 Explain what is meant by beta. What is the relevant risk measured by beta? What is the market return? How is the interpretation of beta related to the market return?
5.9 What range of values does beta typically exhibit? Are positive or negative betas more common? Explain.
5.10 What is the capital asset pricing model (CAPM)? What role does beta play in it? What is the risk premium? How is the security market line (SML) related to the CAPM?
5.11 Is the CAPM a predictive model? Why do beta and the CAPM remain important to investors?
5.12 Describe traditional portfolio management. Give three reasons why traditional portfolio managers like to invest in well-established companies.
5.13 What is modern portfolio theory (MPT)? What is the feasible or attainable set of all pos- sible portfolios? How is it derived for a given group of investment vehicles?
5.15 Define and differentiate among the diversifiable, nondiversifiable, and total risk of a port- folio. Which is considered the relevant risk? How is it measured?
5.16 Define beta. How can you find the beta of a portfolio when you know the beta for each of the assets included within it?
5.17 Explain how you can reconcile the traditional and modem portfolio approaches.
Q5.1 State your portfolio objectives. Then construct a 10-stock portfolio that you feel is consis- tent with your objectives. (Use companies that have been public for at least five years.) Obtain
Q5.2 Using the following guidelines, choose the stocks-A, B, and C-of 3 firms that have been public for at least 10 years. Stock A should be one you are interested in buying. Stock B should be a
Q5.3 From the Wall Street Journal, a Web site such as Yahoo! Finance (finance.yahoo.com), or some other source, obtain a current estimate of the risk-free rate (use a 10-year Treasury bond). Use the
Q5.4 From the Wall Street Journal, a Web site such as Yahoo! Finance (finance.yahoo.com), or some other source, obtain a current estimate of the risk-free rate (use a 10-year Treasury bond). Use the
Q5.6 Use Value Line Investment Survey or some other source to select four stocks with betas ranging from about 0.50 to 1.50. Record the current market prices of each of these stocks. Assume you wish
P5.1 Your portfolio had the values in the following table for the four-year period listed. Calculate your average return over the four-year period. Ending Value Year Beginning Value 2007 $50,000.00
P5.2 Using your data from Problem 5.1 above, calculate the portfolio standard deviation.
P5.3 Assume you are considering a portfolio containing two assets, L and M. Asset L will rep- resent 40% of the dollar value of the portfolio, and asset M will account for the other 60%. The expected
P5.4 Refer to Problem 5.3 above. Assume that asset L represents 60% of the portfolio and asset M 40%. Calculate the average expected return and standard deviation of expected portfolio returns over
P5.5 You have been given the following return data on 3 assets-F, G, and H-over the period 2012-2015. Expected Return (%) Year Asset F Asset G Asset H 2012 16 17 14 2013 17 16 15 2014 18 15 16 2015
P5.6 You have been asked for your advice in selecting a portfolio of assets and have been sup- plied with the following data. Expected Return (%) Year Asset A Asset B Asset C 2012 12 16 12 2013 14 14
P5.7 Referring to Problem 5.6 earlier, what would happen if you constructed a portfolio con- sisting of assets A, B, and C, equally weighted? Would this reduce risk or enhance return?
P5.8 Assume you wish to evaluate the risk and return behaviors associated with various combi- nations of assets V and W under three assumed degrees of correlation: perfect positive, uncorre- lated,
P5.9 Imagine you wish to estimate the betas for two investments, A and B. You have gathered the following return data for the market and for each of the investments over the past 10 years, 2002-2011.
P5.10 You are evaluating two possible stock investments, Buyme Co. and Getit Corp. Buyme Co. has an expected return of 14%, and a beta of 1. Getit Corp. has an expected return of 14%, and a beta of
P5.11 Referring to Problem 5.10 above, if you expected a significant market rally, would your decision be altered? Explain.
P5.12 A security has a beta of 1.20. Is this security more or less risky than the market? Explain. Assess the impact on the required return of this security in each of the following cases.a. The
P5.13 Assume the betas for securities A, B, and C are as shown here. Security A B Beta 1.40 0.80 -0.90a. Calculate the change in return for each security if the market experiences an increase in its
P5.14 Referring to Problem 5.13 above, assume you have a portfolio with $20,000 invested in each of Investment A, B, and C. What is your portfolio beta?
P5.15 Referring to Problem 5.14 above, using the portfolio beta, what would you expect the value of your portfolio to be if the market rallied 20%? Declined 20%?
P5.16 Use the capital asset pricing model (CAPM) to find the required return for each of the fol- lowing securities in light of the data given. Security Risk-Free Rate Market Return Beta 5% 8% 1.30 8
P5.17 Jay is reviewing his portfolio of investments, which include certain stocks and bonds. He has a large amount tied up in U.S. Treasury bills paying 3%. He is considering moving some of his funds
P5.18 The risk-free rate is currently 7%, and the market return is 12%. Assume you are consid- ering the following investments. Investment Vehicle A B D Ea. Which vehicle is most risky? Least risky?
P5.19 Portfolios A through J, which are listed in the following table along with their returns (rp) and risk (measured by the standard deviation, sp), represent all currently available portfolios in
P5.20 For his portfolio, Jack Cashman randomly selected securities from all those listed on the New York Stock Exchange. He began with one security and added securities one by one until a total of 20
P5.21 If portfolio A has a beta of +1.50 and portfolio Z has a beta of -1.50, what do the two values indicate? If the return on the market rises by 20%, what impact, if any, would this have on the
P5.23 Jeanne Lewis is attempting to evaluate two possible portfolios consisting of the same five assets but held in different proportions. She is particularly interested in using beta to compare the
P5.24 Referring to Problem 5.23 above, if the risk-free rate is 2% and the market return is 12%, calculate the required return for each portfolio using the CAPM.
P5.25 Referring to Problem 5.24 above, assume you now have the following annual returns (r;) for each investment. Asset (j) 1 16.5% 2 12.0% 3 15.0% 4 13.0% 5 7.0% Using your finding from Problem 5.24
P5.26 Walt Davies and Shane O'Brien are district managers for Lee, Inc. Over the years, as they moved through the firm's sales organization, they became (and still remain) close friends. Walt, who is
P5.27 Susan Lussier is a 35-year-old divorce currently employed as a tax accountant for a major oil and gas exploration company. She has no children and earns nearly $135,000 a year from her salary
P5.28 In the previous chapter's spreadsheet problem, you helped Laura evaluate the risk-return tradeoff for three stand-alone securities. An alternative for Laura is to look at the investment as a
1. An investor bought a stock for $50 a month ago and it is currently selling for $45. An order to sell the stock if it drops to $40 is a:a. short sale order.b. stop loss order. C. stop buy order.
2. What is the leveraged return of 500 shares of a stock purchased with 40% margin at $15/share that rises to $20/share?a. 55.56%b. 33.33% C. 66.67% 330.99 3.48 1.04
3. The adjustment for a stock split in the Standard & Poor's 500 is accomplished: automatically through the market value calculation.a. b. by deflating the numerator.c. by the adjusted divisor.
4. An investment of $150,000 is expected to generate an after-tax cash flow of $100,000 in one year and another $120,000 in two years. The cost of capital is 10 per- cent. What is the internal rate
percent. C. 28.79 percent.
6. A stock has the following potential returns and the associated probabilities that each will occur. 18 Possible return Proba Probability of occurrence c73 1:32 61 3% 10% 25% 67.34 25% 50% 15.26
7. A portfolio that is on the capital market line but to the left of the market portfolio (M) has the following characteristic: 3. a lending portfolio.b. a borrowing portfolio. C. higher unsystematic
8. In the Markowitz model, portfolio risk: 2. 33b. 51 72 2.22 is equal to the simple sum of the standard deviations of each of the securities in the portfolio.b. is equal to the product of the
9. Risk that can be diversified away is described as:a. unsystematic risk.b. market risk.c. systematic risk. 2.52
10. iCorporation has a relative systematic risk level that is 40% greater than the overall market. The expected return on the market is 16%, and the risk-free rate is 7%. Using the CAPM, the required
11. If a stock's market-implied expected return exceeds the capital asset pricing model predicted required (expected) return, the stock plots on the security market line (SML) as follows:a. above the
LG1 Identify the basic types of securities markets and describe their characteristics.
LG2 Explain the initial public offering (IPO) process.
LG3 Describe broker markets and dealer markets, and discuss how they differ from alternative trading systems.
LG4 Review the key aspects of the globalization of securities markets, and discuss the importance of international markets.
LG5 Discuss trading hours and the regulation of securities markets.
LG6 Explain long purchases, margin transactions, and short sales.
2.5 What are the third and fourth markets?
2.6 Differentiate between a bull market and a bear market.
2.8 Describe how foreign security investments can be made, both indirectly and directly.
2.9 Describe the risks of investing internationally, particularly currency exchange risk.
2.10 How are after-hours trades typically handled? What is the outlook for after-hours trading?
2.12 What is a long purchase? What expectation underlies such a purchase? What is margin trading, and what is the key reason why investors sometimes use it as part of a long purchase?
2.13 How does margin trading magnify profits and losses? What are the key advantages and disadvantages of margin trading?
2.15 What is the primary motive for short selling? Describe the basic short-sale procedure. Why must the short seller make an initial equity deposit?
2.17 Describe the key advantages and disadvantages of short selling. How are short sales used to earn speculative profits?
Q2.1 From 1990 to 2005, the average IPO rose by more than 20% in its first day of trading. In 1999, 117 deals doubled in price on the first day, compared to only 39 in the previous 24 years combined.
Q2.2 Why do you think some large, well-known companies such as Cisco Systems, Intel, and Microsoft prefer to trade on the Nasdaq National Market rather than on a major securities exchange such as the
P2.1 The current exchange rate between the U.S. dollar and the Japanese yen is 116.915 (yen/$). How many dollars would you get for 1,000 Japanese yen?
P2.2 An investor recently sold some stock that was a Eurodollar investment for 20,000 euros. The U.S.$/euro exchange rate is currently 1.100. How many U.S. dollars will the investor receive?
P2.4 Erin McQueen purchased 50 shares of BMW, a German stock traded on the Frankfurt Exchange, for 64.5 euros () per share exactly one year ago when the exchange rate was .78 /US$. Today the stock is
P2.8 Assume that an investor buys 100 shares of stock at $50 per share, putting up a 60% margin. If the stock rises to $60 per share, what is the investor's new margin position?
P2.9 Assume that an investor buys 100 shares of stock at $50 per share, putting up a 70% margin.a. What is the debit balance in this transaction?b. How much equity funds must the investor provide to
P2.10 Miguel Torres purchased 100 shares of Can'tWin.com for $50 per share, using as little of his own money as he could. His broker has a 50% initial margin requirement and a 30% maintenance margin
P2.12 An investor buys 200 shares of stock selling at $80 per share using a margin of 60%. The stock pays annual dividends of $1 per share. A margin loan can be obtained at an annual interest cost of
P2.13 Marlene Bellamy purchased 300 shares of Writeline Communications stock at $55 per share using the prevailing minimum initial margin requirement of 50%. She held the stock for exactly four
P2.15 An investor short sells 100 shares of a stock for $20 per share. The initial margin is 50%. How much equity will be required in the account to complete this transaction?
P2.17 An investor short sells 100 shares of a stock for $20 per share. The initial margin is 50%, and the maintenance margin is 30%. The price of the stock falls to $12 per share. What is the margin,
P2.18 An investor short sells 100 shares of a stock for $20 per share. The initial margin is 50%, and the maintenance margin is 30%. The price of the stock rises to $28 per share. What is the margin,
P2.19 Calculate the profit or loss per share realized on each of the following short-sale transactions. Stock Sold Short Transaction at Price/Share Stock Purchased to Cover Short at Price/Share A $75
P2.21 Dara Simmons, a 40-year-old financial analyst and divorced mother of two teenage children, considers herself a savvy investor. She has increased her investment portfolio considerably over the
P2.22 Ravi Dumar is a stockbroker who lives with his wife, Sasha, and their five children in Milwaukee, Wisconsin. Ravi firmly believes that the only way to make money in the market is to follow an
P2.23 You have just learned about the mechanics of margin trading and want to take advantage of the potential benefits of financial leverage. You have decided to open a margin account with your
LG1 Discuss the growth in online investing and the pros and cons of using the Internet as an investment tool.

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