Answer:
b. False
Question: You have funds that you want to invest in bonds, and you just noticed in the financial pages of the local newspaper that you can buy a $1,000 par value bond for $800. The coupon rate is 10% (with annual payments), and there are 10 years before the bond will mature and pay off its $1,000 par value. You should buy the bond if your required return on bonds with this risk is 12%. True False
Answer:
True
Question: The Y-axis intercept of the SML represents the required return of a portfolio with a beta of zero, which is the risk-free rate. a. True b. False
Answer:
a
Question: The text identifies three methods for estimating the cost of common stock from retained earnings: the CAPM method, the DCF method, and the bond-yield-plus-risk-premium method. Since we cannot be sure that the estimate obtained with any of these methods is correct, it is often appropriate to use all three methods, then consider all three estimates, and end up using a judgmental estimate when calculating the WACC. a. True b. False
Answer:
a. True
Question: A 100% stock dividend and a 2:1 stock split should, at least conceptually, have the same effect on the firm’s stock price. a. True b. False
Answer:
True
Question: A stock with a beta equal to –1.0 has zero systematic (or market) risk. a. True b. False
Answer:
b. False
Question: The slope of the SML is determined by the value of beta. a. True b. False
Answer:
b
Question: The CAPM is built on historic conditions, although in most cases we use expected future data in applying it. Because betas used in the CAPM are calculated using expected future data, they are not subject to changes in future volatility. This is one of the strengths of the CAPM.
Answer Options:
a. True
b. False
Answer:
b. False
Question: According to the Capital Asset Pricing Model, investors are primarily concerned with portfolio risk, not the risks of individual stocks held in isolation. Thus, the relevant risk of a stock is the stock’s contribution to the riskiness of a well-diversified portfolio. a. True b. False
Answer:
a. True
Question: A stock’s beta is more relevant as a measure of risk to an investor who holds only one stock than to an investor who holds a well-diversified portfolio.
Answer Options:
a. True
b. False
Answer:
b. False
Question: The slope of the SML is determined by the value of beta.
Answer Options:
a. True
b. False
Answer:
b. False
Question: We would almost always find that the beta of a diversified portfolio is less stable over time than the beta of a single security.
Answer Options:
a. True
b. False
Answer:
b. False
Question: The slope of the SML is determined by the value of beta.
Answer Options:
a. True
b. False
Answer:
b. False
Question: The annual rate of return on any given stock can be found as the stock’s dividend for the year plus the change in the stock’s price during the year, divided by its beginning-of-year price. If you obtain such data on a large portfolio of stocks, like those in the S&P 500, find the rate of return on each stock, and then average those returns, this would give you an index’s price return.
Answer Options:
a. True
b. False
Answer:
a. True
Question: Variance is a measure of the variability of returns, and since it involves squaring the deviation of each actual return from the expected return, it is always larger than its square root, the standard deviation. a. True b. False
Answer:
a
Question: When estimating the cost of equity by use of the CAPM, three potential problems are (1) whether to use long-term or short-term rates for RF, (2) whether or not the historical beta is the beta that investors use when evaluating the stock, and (3) how to measure the market risk premium, RPM. These problems leave us unsure of the true value of rs. a. True b. False
Answer:
a. True
Question: If investors become less averse to risk, the slope of the Security Market Line (SML) will increase. a. True b. False
Answer:
b. False
Question: A stock’s beta is more relevant as a measure of risk to an investor who holds only one stock than to an investor who holds a well-diversified portfolio. a. True b. False
Answer:
b. False
Question: Portfolio A has but one stock, while Portfolio B consists of all stocks that trade in the market, each held in proportion to its market value. Because of its diversification, Portfolio B will by definition be riskless.
Answer Options:
a. True
b. False
Answer:
b. False
Question: Managers should under no conditions take actions that increase their firm’s risk relative to the market, regardless of how much those actions would increase the firm’s expected rate of return. a. True b. False
Answer:
b
Question: If you plotted the returns on a given stock against those of the market, and if you found that the slope of the regression line was negative, the CAPM would indicate that the required rate of return on the stock should be greater than the risk-free rate for a well-diversified investor, assuming that the observed relationship is expected to continue into the future.
Answer Options:
a. True
b. False
Answer:
b. False
Question: Diversification will normally reduce the riskiness of a portfolio of stocks. a. True b. False
Answer:
a
Question: The text identifies three methods for estimating the cost of common stock from retained earnings: the CAPM method, the DCF method, and the bond-yield-plus-risk-premium method. Since we cannot be sure that the estimate obtained with any of these methods is correct, it is often appropriate to use all three methods, then consider all three estimates, and end up using a judgmental estimate when calculating the WACC. a. True b. False
Answer:
a. True
Question: Any change in its beta is likely to affect the required rate of return on a stock, which implies that a change in beta will likely have an impact on the stock’s price, other things held constant.
Answer Options:
a. True
b. False
Answer:
a. True