Strayer FIN534 Week 5 Quiz 4

FIN 534 Week 5 Quiz 4
Question 1
For a portfolio of 40 randomly selected stocks, which of the
following is most likely to be true?

The riskiness of the portfolio is greater than the riskiness of
each of the stocks if each was held in isolation.

The riskiness of the portfolio is the same as the riskiness of
each stock if it was held in isolation.

The beta of the portfolio is less than the average of the betas of
the individual stocks.

The beta of the portfolio is equal to the average of the betas of
the individual stocks.

The beta of the portfolio is larger than the average of the betas
of the individual stocks.

Question 2
Which of the following statements is CORRECT?

The beta of a portfolio of stocks is always smaller than the betas
of any of the individual stocks.

If you found a stock with a zero historical beta and held it as
the only stock in your portfolio, you would by definition have a riskless
portfolio.

The beta coefficient of a stock is normally found by regressing
past returns on a stock against past market returns. One could also construct a
scatter diagram of returns on the stock versus those on the market, estimate
the slope of the line of best fit, and use it as beta. However, this historical
beta may differ from the beta that exists in the future.

The beta of a portfolio of stocks is always larger than the betas
of any of the individual stocks.

It is theoretically possible for a stock to have a beta of 1.0. If
a stock did have a beta of 1.0, then, at least in theory, its required rate of
return would be equal to the risk-free (default-free) rate of return, rRF.

Question 3

Stock A’s beta is 1.5 and Stock B’s beta is 0.5. Which of the
following statements must be true about these securities? (Assume market
equilibrium.)

When held in isolation, Stock A has more risk than Stock B.

Stock B must be a more desirable addition to a portfolio than A.

Stock A must be a more desirable addition to a portfolio than B.

The expected return on Stock A should be greater than that on B.

The expected return on Stock B should be greater than that on A.

Question 4

Stock A has a beta of 0.8, Stock B has a beta of 1.0, and Stock C
has a beta of 1.2. Portfolio P has equal amounts invested in each of the three
stocks. Each of the stocks has a standard deviation of 25%. The returns on the
three stocks are independent of one another (i.e., the correlation coefficients
all equal zero). Assume that there is an increase in the market risk premium,
but the risk-free rate remains unchanged. Which of the following statements is
CORRECT?

The required return of all stocks will remain unchanged since
there was no change in their betas.

The required return on Stock A will increase by less than the
increase in the market risk premium, while the required return on Stock C will
increase by more than the increase in the market risk premium.

The required return on the average stock will remain unchanged,
but the returns of riskier stocks (such as Stock C) will increase while the
returns of safer stocks (such as Stock A) will decrease.

The required returns on all three stocks will increase by the
amount of the increase in the market risk premium.

The required return on the average stock will remain unchanged,
but the returns on riskier stocks (such as Stock C) will decrease while the
returns on safer stocks (such as Stock A) will increase.

Question 5

Stock A has a , while Stock B has a Which of the following
statements is CORRECT?

Stock B’s required return is double that of Stock A’s.

If the marginal investor becomes more risk averse, the required
return on Stock B will increase by more than the required return on Stock A.

An equally weighted portfolio of Stocks A and B will have a beta
lower than 1.2.

If the marginal investor becomes more risk averse, the required
return on Stock A will increase by more than the required return on Stock B.

If the risk-free rate increases but the market risk premium
remains constant, the required return on Stock A will increase by more than
that on Stock B.

Question 6

You have the following data on three stocks:
Stock Standard Deviation Beta
A 20% 0.59
B 10% 0.61
C 12% 1.29
If you are a strict risk minimizer, you would choose Stock ____ if
it is to be held in isolation and Stock ____ if it is to be held as part of a
well-diversified portfolio.

A; A.

A; B.

B; A.

C; A.

C; B.

Question 7

Stock HB has a beta of 1.5 and Stock LB has a beta of 0.5. The
market is in equilibrium, with required returns equaling expected returns.
Which of the following statements is CORRECT?

If expected inflation remains constant but the market risk premium
(rM ? rRF) declines, the required return of Stock LB will decline but the
required return of Stock HB will increase.

If both expected inflation and the market risk premium (rM ? rRF)
increase, the required return on Stock HB will increase by more than that on
Stock LB.

If both expected inflation and the market risk premium (rM ? rRF)
increase, the required returns of both stocks will increase by the same amount.

Since the market is in equilibrium, the required returns of the
two stocks should be the same.

If expected inflation remains constant but the market risk premium
(rM? rRF) declines, the required return of Stock HB will decline but the
required return of Stock LB will increase.

Question 8

Which of the following statements best describes what you should
expect if you randomly select stocks and add them to your portfolio?

Adding more such stocks will reduce the portfolio’s unsystematic,
or diversifiable, risk.

Adding more such stocks will increase the portfolio’s expected
rate of return.

Adding more such stocks will reduce the portfolio’s beta
coefficient and thus its systematic risk.

Adding more such stocks will have no effect on the portfolio’s
risk.

Adding more such stocks will reduce the portfolio’s market risk
but not its unsystematic risk.
Question 9

Which of the following statements is CORRECT?

If a company with a high beta merges with a low-beta company, the
best estimate of the new merged company’s beta is 1.0.

Logically, it is easier to estimate the betas associated with
capital budgeting projects than the betas associated with stocks, especially if
the projects are closely associated with research and development activities.

The beta of an “average stock,” which is also “the market beta,”
can change over time, sometimes drastically.

If a newly issued stock does not have a past history that can be
used for calculating beta, then we should always
estimate that its beta will turn out to be 1.0. This is especially true if the
company finances with more debt than the average firm.

During a period when a company is undergoing a change such as
increasing its use of leverage or taking on riskier projects, the calculated
historical beta may be drastically different from the beta that will exist in
the future.

Question 10

Which of the following statements is CORRECT?

A stock’s beta is less relevant as a measure of risk to an
investor with a well-diversified portfolio than to an investor who holds only
that one stock.

If an investor buys enough stocks, he or she can, through diversification,
eliminate all of the diversifiable risk inherent in owning stocks. Therefore,
if a portfolio contained all publicly traded stocks, it would be essentially
riskless.

The required return on a firm’s common
stock is, in theory, determined solely by its market risk. If the market risk
is known, and if that risk is expected to remain constant, then no other
information is required to specify the firm’s required return.

Portfolio diversification reduces the variability of returns (as
measured by the standard deviation) of each individual stock held in a
portfolio.

A security’s beta measures its non-diversifiable, or market, risk
relative to that of an average stock.

Question 11

Which is the best measure of risk for a single asset held in
isolation, and which is the best measure for an asset held in a diversified
portfolio?

Variance; correlation coefficient.

Standard deviation; correlation coefficient.

Beta; variance.

Coefficient of variation; beta.

Beta; beta.

Question 12

A highly risk-averse investor is considering adding one additional
stock to a 3-stock portfolio, to form a 4-stock portfolio. The three stocks
currently held all have , and they are perfectly positively correlated with the
market. Potential new Stocks A and B both have expected returns of 15%, are in
equilibrium, and are equally correlated with the market, with However, Stock
A’s standard deviation of returns is 12% versus 8% for Stock B. Which stock
should this investor add to his or her portfolio, or does the choice not
matter?

Either A or B, i.e., the investor should be indifferent between
the two.

Stock A.

Stock B.

Neither A nor B, as neither has a return sufficient to compensate
for risk.

Add A, since its beta must be lower.

Question 13

Stock A’s beta is 1.5 and Stock B’s beta is 0.5. Which of the
following statements must be true, assuming the CAPM is correct.

Stock A would be a more desirable addition to a portfolio then
Stock B.

In equilibrium, the expected return on Stock B will be greater
than that on Stock A.

When held in isolation, Stock A has more risk than Stock B.

Stock B would be a more desirable addition to a portfolio than A.

In equilibrium, the expected return on Stock A will be greater
than that on B.

Question 14

Stock A has an expected return of 12%, a beta of 1.2, and a
standard deviation of 20%. Stock B also has a beta of 1.2, but its expected
return is 10% and its standard deviation is 15%. Portfolio AB has $900,000
invested in Stock A and $300,000 invested in Stock B. The correlation between
the two stocks’ returns is zero (that is, rA,). Which of the following
statements is CORRECT?

Portfolio AB’s standard deviation is 17.5%.

The stocks are not in equilibrium based on the CAPM; if A is
valued correctly, then B is overvalued.

The stocks are not in equilibrium based on the CAPM; if A is
valued correctly, then B is undervalued.

Portfolio AB’s expected return is 11.0%.

Portfolio AB’s beta is less than 1.2.

Question 15

Bob has a $50,000 stock portfolio with a beta of 1.2, an expected
return of 10.8%, and a standard deviation of 25%. Becky also has a $50,000
portfolio, but it has a beta of 0.8, an expected return of 9.2%, and a standard
deviation that is also 25%. The correlation coefficient, r, between Bob’s and
Becky’s portfolios is zero. If Bob and Becky marry and combine their
portfolios, which of the following best describes their combined $100,000
portfolio?

The combined portfolio’s expected return will be less than the
simple weighted average of the expected returns of the two individual
portfolios, 10.0%.

The combined portfolio’s beta will be equal to a simple weighted
average of the betas of the two individual portfolios, 1.0; its expected return
will be equal to a simple weighted average of the expected returns of the two
individual portfolios, 10.0%; and its standard deviation will be less than the
simple average of the two portfolios’ standard deviations, 25%.

The combined portfolio’s expected return will be greater than the
simple weighted average of the expected returns of the two individual
portfolios, 10.0%.

The combined portfolio’s standard deviation will be greater than
the simple average of the two portfolios’ standard deviations, 25%.

The combined portfolio’s standard deviation will be equal to a
simple average of the two portfolios’ standard deviations, 25%

Question 16

The required returns of Stocks X and Y are % and rY = 12%. Which
of the following statements is CORRECT?

If the market is in equilibrium, and if Stock Y has the lower
expected dividend yield, then it must have the higher expected growth rate.

If Stock Y and Stock X have the same dividend yield, then Stock Y
must have a lower expected capital gains yield than Stock X.

If Stock X and Stock Y have the same current dividend and the same
expected dividend growth rate, then Stock Y must sell for a higher price.

The stocks must sell for the same price.

Stock Y must have a higher dividend yield than Stock X.

Question 17

Companies can issue different classes of common stock. Which of
the following statements concerning stock classes is CORRECT?

All common stocks fall into one of three classes: A, B, and C.

All common stocks, regardless of class, must have the same voting
rights.

All firms have several classes of common stock.

All common stock, regardless of class, must pay the same dividend.

Some class or classes of common stock are entitled to more votes
per share than other classes.

Question 18

Stocks X and Y have the following data. Assuming the stock market
is efficient and the stocks are in equilibrium, which of the following
statements is CORRECT?
X Y
Price $25 $25
Expected dividend yield 5% 3%
Required return 12% 10%

Stock Y pays a higher dividend per share than Stock X.

Stock X pays a higher dividend per share than Stock Y.

One year from now, Stock X should have the higher price.

Stock Y has a lower expected growth rate than Stock X.

Stock Y has the higher expected capital gains yield.

Question 19

Which of the following statements is CORRECT?

The constant growth model is often appropriate for evaluating
start-up companies that do not have a stable history of growth but are expected
to reach stable growth within the next few years.

If a stock has a required rate of return % and its dividend is
expected to grow at a constant rate of 5%, this implies that the stock’s
dividend yield is also 5%.

The stock valuation model, /(rs – g), can be used to value firms
whose dividends are expected
to decline at a constant rate, i.e., to grow at a negative rate.

The price of a stock is the present value of all expected future
dividends, discounted at the dividend growth rate.

The constant growth model cannot be used for a zero growth stock,
where the dividend is expected to remain constant over time.

Question 20

Two constant growth stocks are in equilibrium, have the same
price, and have the same required rate of return. Which of the following
statements is CORRECT?

The two stocks must have the same dividend per share.

If one stock has a higher dividend yield, it must also have a
lower dividend growth rate.

If one stock has a higher dividend yield, it must also have a
higher dividend growth rate.

The two stocks must have the same dividend growth rate.

The two stocks must have the same dividend yield.

Question 21

An increase in a firm’s expected growth rate would cause its
required rate of return to

increase.

decrease.

fluctuate less than before.

fluctuate more than before.

possibly increase, possibly decrease, or possibly remain constant.

Question 22

The preemptive right is important to shareholders because it
allows managers to buy additional shares below the current market price.
will result in higher dividends per share.
is included in every corporate charter.

protects the current shareholders against a dilution of their
ownership interests.

protects bondholders, and thus enables the firm to issue debt with
a relatively low interest rate.

Question 23

If markets are in equilibrium, which of the following conditions
will exist?

Each stock’s expected return should equal its realized return as
seen by the marginal investor.

Each stock’s expected return should equal its required return as
seen by the marginal investor.

All stocks should have the same expected return as seen by the marginal
investor.

The expected and required returns on stocks and bonds should be
equal.

All stocks should have the same realized return during the coming
year.

Question 24

For a stock to be in equilibrium, that is, for there to be no
long-term pressure for its price to depart from its current level, then

the expected future return must be less than the most recent past
realized return.

The past realized return must be equal to the expected return
during the same period.

the required return must equal the realized return in all periods.

the expected return must be equal to both the required future
return and the past realized return.

the expected future returns must be equal to the required return.

Question 25

A stock is expected to pay a year-end dividend
of $2.00, i.e., D1 = $2.00. The dividend is expected to decline at a rate of 5%
a year forever (%). If the company is in equilibrium and its expected and
required rate of return is 15%, which of the following statements is CORRECT?

The company’s current stock price is $20.

The company’s dividend yield 5 years from now is expected to be
10%.

The constant growth model cannot be used because the growth rate
is negative.

The company’s expected capital
gains yield is 5%.

The company’s expected stock price at the beginning of next year
is $9.50.

Question 26

If a stock’s dividend is expected
to grow at a constant rate of 5% a year, which of the following statements is
CORRECT? The stock is in equilibrium.

The expected return on the stock is 5% a year.

The stock’s dividend yield is 5%.

The price of the stock is expected to decline in the future.

The stock’s required return must be equal to or less than 5%.

The stock’s price one year from now is expected to be 5% above the
current price.

Question 27

The expected return on Natter Corporation’s stock is 14%. The
stock’s dividend is expected to grow at a constant rate of 8%, and it currently
sells for $50 a share. Which of the following statements is CORRECT?

The stock’s dividend yield is 7%.

The stock’s dividend yield is 8%.

The current dividend per share is $4.00.

The stock price is expected to be $54 a share one year from now.

The stock price is expected to be $57 a share one year from now.

Question 28

Stocks X and Y have the following data. Assuming the stock market
is efficient and the stocks are in equilibrium, which of
the following statements is CORRECT?
X Y
Price $30 $30
Expected growth (constant) 6% 4%
Required return 12% 10%

Stock X has a higher dividend yield than Stock Y.

Stock Y has a higher dividend yield than Stock X.

One year from now, Stock X’s price is expected to be higher than
Stock Y’s price.

Stock X has the higher expected year-end dividend.

Stock Y has a higher capital gains yield.

Question 29

Stocks A and B have the following data. The market risk
premium is 6.0% and the risk-free rate is 6.4%. Assuming the stock market is
efficient and the stocks are in equilibrium, which of the following statements
is CORRECT?
A B
Beta 1.10 0.90
Constant growth rate 7.00% 7.00%

Stock A must have a higher stock price than Stock B.

Stock A must have a higher dividend yield than Stock B.

Stock B’s dividend yield equals its expected dividend growth rate.

Stock B must have the higher required return.

Stock B could have the higher expected return.

Question 30

Stocks A and B have the same price and are in equilibrium, but
Stock A has the higher required rate of return. Which of the following
statements is CORRECT?

If Stock A has a lower dividend yield than Stock B, its expected
capital gains yield must be higher than Stock B’s.

Stock B must have a higher dividend yield than Stock A.

Stock A must have a higher dividend yield than Stock B.

If Stock A has a higher dividend yield than Stock B, its expected
capital gains yield must be lower than Stock B’s.

Stock A must have both a higher dividend
yield and a higher capital gains yield than Stock B.