Exam 2

Q1. Biff deposited $9,000 in a bank account, and 10 years later he closes out the account, which is worth $18,000. What is the annual interest rate over the 10 years?

a. 6.45%

b. 7.18%

c. 9.10%

d. 10.0%

Q2. You estimate you'll need $200,000 per year for 25 years starting on your 65th birthday to live on during your retirement. Today is your 50th birthday and you want to make equal deposits into an account paying 9% interest per year, the first deposit today and the last deposit on your 64th birthday. How much must each deposit be (rounded to the nearest $10)?

a. $99,920

b. $85,840

c. $61,385

d. $49,380

Q3. You won the lottery and can receive either (1. $60,000 today, or (2. $10,000 one year from today plus $25,000 two years from today plus $35,000 three years from today. You plan to use the money to pay for your child's college education in 15 years. You should

a. take the $60,000 today because of the time value of money regardless of current interest rates.

b. take option two because you get $70,000 rather than $60,000 regardless of current interest rates.

c. take the $60,000 today only if the current interest rate is at least 16.67%

d. take the $60,000 today if you can earn 6.81% per year or more on your investments

Q4. If Cathy deposits $12,000 into a bank account that pays 6% interest compounded quarterly, what will the account balance be in seven years?

a. 18,001

b. 18,207

c. 19,112

d. 19,344

Q5. You decide you want your child to be a millionaire. You have a son today and you deposit $10,000 in an investment account that earns 7% per year. The money in the account will be distributed to your son whenever the total reaches $1,500,000. How old will your son be when he gets the money (rounded to the nearest year)?

a. 82 years

b. 74 years

c. 60 years

d. 49 years

Q6. If you invest $750 every six months at 8 percent compounded semiannually, how much would you accumulate at the end of 10 years?

a. $10,065

b. $10,193

c. $22,334

d. $21,731

Q7. If you put $2,000 in a savings account that yields 8% compounded semiannually, how much money will you have in the account in 20 years (round to nearest $10)?

a. $6,789

b. $8,342

c. $9,602

d. $9,972

Q8. Two sisters each open IRAs in 2011 and plan to invest $3,000 per year for the next 30 years. Mary makes her first deposit on January 1, 2011, and will make all future deposits on the first day of the year. Jane makes her first deposit on December 31, 2011, and will continue to make her annual deposits on the last day of each year. At the end of 30 years, the difference in the value of the IRAs (rounded to the nearest dollar), assuming an interest rate of 7% per year, will be

a. $19,837.

b. $12,456.

c. $6,300.

d. $210.

Q9. You have the choice of two equally risk annuities, each paying $5,000 per year for 8 years. One is an annuity due and the other is an ordinary annuity. If you are going to be receiving the annuity payments, which annuity would you choose to maximize your wealth?

a. the annuity due

b. the ordinary annuity

c. Since we don't know the interest rate, we can't find the value of the annuities and hence we cannot tell which one is better.

d. either one because they have the same present value

Q10. You charged $1,000 on your credit card for Christmas presents. Your credit card company charges you 26% annual interest, compounded monthly. If you make the minimum payments of $25 per month, how long will it take ( to the nearest month) to pay off your balance?

a. 94 months

b. 79 months

c. 54 months

d. 40 months

Q11. How can investors reduce the risk associated with an investment portfolio without having to accept a lower expected return?

a. Wait until the stock market rises.

b. Increase the amount of money invested in the portfolio.

c. Purchase a variety of securities; i.e., diversify.

d. Purchase stocks that have exceptionally high standard deviations.

Q12. A stock's beta is a measure of its

a. unsystematic risk.

b. systematic risk.

c. company-unique risk.

d. diversifiable risk.

Q13. You are considering an investment in Citizens Bank Corp. The firm has a beta of 1.6. Currently, U.S. Treasury bills are yielding 2.75% and the expected return for the S & P 500 is 14%. What rate of return should you expect for your investment in Citizens Bank?

a. 11.15%

b. 15.39%

c. 16.75%

d. 20.75%

Q14. Rogue Recreation, Inc. has normally distributed returns with an expected return of 15% and a standard deviation of 5%, while Lake Tours, Inc. has normally distributed returns with an expected return of 15% and a standard deviation of 15%. Which of the following is true?

a. Lake Tours' investors are not being adequately compensated for relevant risk.

b. Rogue Rec is likely to experience returns larger than those of Lake Tours.

c. Lake Tours is more likely to have negative returns than Rogue Rec.

d. Rational investors will prefer Lake Tours, Inc. over Rogue Recreation, Inc.

Q15. Investment A has an expected return of 15% per year, while investment B has an expected return of 12% per year. A rational investor will choose

a. investment A because of the higher expected return.

b. investment B because a lower return means lower risk.

c. investment A if A and B are of equal risk.

d. investment A only if the standard deviation of returns for A is higher than the standard deviation of returns for B.

Q16. You purchased 500 shares of A.M.J. Inc. common stock one year ago for $50 per share. You received a dividend of $2 per share today and decide to take your profits by selling at $54.50 per share. What is your holding period return?

a. 13.0%

b. 9.0%

c. 6.5%

d. 4.0%

Q17. Decker Corp. common stock has a required return of 17.5% and a beta of 1.75. If the expected risk free return is 3%, what is the expected return for the market based on the CAPM?

a. 11.29%

b. 14.29%

c. 13.35%

d. 15.27%

Q18. The CAPM designates the risk-return tradeoff existing in the market, where risk is defined in terms of beta.

a. True

b. False

Q19. Proper diversification generally results in the elimination of risk.

a. True

b. False

Q20. The relevant variable a financial manager uses to measure returns is

a. net income determined using generally accepted accounting principles.

b. earnings per share minus dividends per share.

c. cash flows.

d. dividends.

Q21. Which of the following statements concerning bonds and risk is true?

a. Because the interest payments and maturing value are known, the only risk associated with investing in bonds is default risk.

b. Zero coupon bonds are always more risky than bonds with high coupon rates because of the time value of money.

c. Bonds are generally less risky than common stock because of the preference for debt over equity in the event of bankruptcy and liquidation.

d. B-rated bonds are above average for risk, i.e., less risky than the average bond.

Q22. The yield to maturity on a bond

a. is fixed in the indenture.

b. is lower for higher risk bonds.

c. is the required rate of return on the bond.

d. is generally below the coupon interest rate.

Q23. In general, interest on bonds, like dividends on preferred stock, may be deferred until a later date at the discretion of management, making debt financing more appealing to corporate managers.

a. True

b. False

Q24. If a corporation were to choose between issuing a debenture, a mortgage bond, or a subordinated debenture, which would have the highest yield to maturity, everything else equal?

a. the debenture

b. the mortgage bond

c. the subordinated debenture

d. all of the above

Q25. Cabell Corp. bonds pay an annual coupon rate of 10%. If investors' required rate of return is now 12% on these bonds, they will be priced at

a. par value.

b. a premium to par value.

c. a discount to par value.

d. Cannot be determined without knowing the number of years to maturity.

Q26. The sum of the present values of an investment's expected future cash flows is known as the investment's intrinsic value.

a. True

b. False

Q27. Liquidation value is of primary importance to investors because it represents the true amount of cash that an investor is likely to receive.

a. True

b. False

Q28. Andre owns a corporate bond with a coupon rate of 8% that matures in 10 years. Ruth owns a corporate bond with a coupon rate of 12% that matures in 25 years. If interest rates go down, then

a. the value of Andre's bond will decrease and the value of Ruth's bond will increase.

b. the value of both bonds will increase.

c. the value of Ruth's bond will decrease more than the value of Andre's bond due to the longer time to maturity.

d. the value of both bonds will remain the same because they were both purchased in an earlier time period before the interest rate changed.

Q29. Bryant Inc. just issued $1,000 par 30-year bonds. The bonds sold for $1,107.20 and pay interest semiannually. Investors require a rate of 7.75% on the bonds. What is the bonds' coupon rate?

a. 9.333%

b. 7.750%

c. 4.125%

d. 8.675%

Q30. Bonds generally have a maturity date while preferred stocks do not.

a. True

b. False

Q31. If a shareholder cannot attend the corporation's annual meeting, the shares may still be voted using

a. the preemptive right.

b. a proxy.

c. majority voting rules.

d. the cumulative voting right.

Q32. Southland Tours has net income of $2 million this year. The book value of Southland Tours common equity is $8 million dollars. The company's dividend payout ratio is 60% and is expected to remain this way. What is Southland Tours' internal growth rate?

a. 6%

b. 9%

c. 10%

d. 15%

Q33. Who bears the greatest risk of loss of value if a firm should fail?

a. bondholders

b. preferred stockholders

c. common stockholders

d. All of the above bear equal risk of loss.

Q34. Glacier Inc. preferred stock has a 5% stated dividend percentage, and a $100 par value. What is the value of the stock if your required rate of return is 6% per year?

a. $83.33

b. $94.05

c. $100.00

d. $30.00

Q35. Common stock valuation can be based on the present value of future dividends or alternatively on the present value of the firm's future quarterly net income.

a. True

b. False

Q36. Although under normal operating conditions preferred shareholders do not have voting rights, protective provision generally allow for voting rights in the event of nonpayment of preferred dividends.

a. True

b. False

Q37. Preferred stock is less risky than common stock, but more risky than debt.

a. True

b. False

Q38. Preferred stock is similar to a bond in the following way

a. preferred stock always contains a maturity date.

b. both investments provide a stated income stream.

c. both contain a growth factor similar to common stock.

d. both provide interest payments.

Q39. Preferred stock differs from common stock in that

a. preferred stock usually has a maturity date.

b. preferred stock investors have a higher required return than common stock investors.

c. preferred stock dividends are fixed.

d. common stock investors have a required return and preferred stock investors do not.

Q40. An example of the growth factor in common stock is

a. acquiring a loan to fund an investment in Asia.

b. retaining profits in order to reinvest into the firm.

c. issuing new stock to provide capital for future growth.

d. two strong companies merging together to increase their economy of scale.