Answer Options:
a. True
b. False
Answer: a. True
Question: Amram Inc. can issue a 20-year bond with a 6% annual coupon at par. This bond is not convertible, not callable, and has no sinking fund. Alternatively, Amram could issue a 20-year bond that is convertible into common equity, may be called, and has a sinking fund. Which of the following most accurately describes the coupon rate that Amram would have to pay on the second bond, the convertible, callable bond with the sinking fund, to have it sell initially at par?
a. The coupon rate should be exactly equal to 6%.
b. The coupon rate could be less than, equal to, or greater than 6%, depending on the specific terms set, but in the real world the convertible feature would probably cause the coupon rate to be less than 6%.
c. The rate should be slightly greater than 6%.
d. The rate should be over 7%.
e. The rate should be over 8%.
Answer Options:
a. False
b. True
c. False
d. False
e. False
Answer: b. True
Question: If investors become less averse to risk, the slope of the Security Market Line (SML) will increase.
Answer Options:
a. True
b. False
Answer: b. False
Question: Time lines can be constructed for annuities where the payments occur at either the beginning or the end of the periods.
Answer Options:
a. True
b. False
Answer: a. True
Question: You are considering two equally risky annuities, each of which pays $5,000 per year for 10 years. Investment ORD is an ordinary (or deferred) annuity, while Investment DUE is an annuity due. Which of the following statements is CORRECT?
Answer Options:
a. A rational investor would be willing to pay more for DUE than for ORD, so their market prices should differ.
b. The present value of DUE exceeds the present value of ORD, while the future value of DUE is less than the future value of ORD.
c. The present value of ORD exceeds the present value of DUE, and the future value of ORD also exceeds the future value of DUE.
d. The present value of DUE exceeds the present value of ORD, while the future value of DUE exceeds the future value of ORD.
e. If the going rate of interest decreases from 10% to 0%, the difference between the present value of ORD and the present value of DUE would remain constant.
Answer: a. A rational investor would be willing to pay more for DUE than for ORD, so their market prices should differ.
Question: Because the maturity risk premium is normally positive, the yield curve is normally upward sloping.
Answer Options:
a. True
b. False
Answer: a. True
Question: Which of the following would be most likely to lead to a higher level of interest rates in the economy?
a. Households start saving a larger percentage of their income.
b. Corporations step up their expansion plans and thus increase their demand for capital.
c. The level of inflation begins to decline.
d. The economy moves from a boom to a recession.
e. The Federal Reserve decides to try to stimulate the economy.
Answer Options:
Answer: b. Corporations step up their expansion plans and thus increase their demand for capital.
Question: The key conclusion of the Capital Asset Pricing Model is that the value of an asset should be measured by considering both risk and the expected return of the asset, assuming that the asset is held in a well-diversified portfolio. The risk of the asset held in isolation is not relevant under the CAPM.
Answer Options:
a. True
b. False
Answer: a. True
Question: Your bank account pays a 6% nominal rate of interest. The interest is compounded quarterly. Which of the following statements is CORRECT?
Answer Options:
a. The periodic rate of interest is 1.5% and the effective rate of interest is 3%.
b. The periodic rate of interest is 6% and the effective rate of interest is greater than 6%.
c. The periodic rate of interest is 1.5% and the effective rate of interest is greater than 6%.
d. The periodic rate of interest is 3% and the effective rate of interest is 6%.
e. The periodic rate of interest is 6% and the effective rate of interest is also 6%.
Answer: c. The periodic rate of interest is 1.5% and the effective rate of interest is greater than 6%.
Question: Which of the following statements is CORRECT?
a. If a bond is selling at a discount to par, its current yield will be greater than its yield to maturity.
b. All else equal, bonds with longer maturities have less price risk than bonds with shorter maturities.
c. If a bond is selling at its par value, its current yield equals its capital gains yield.
d. If a bond is selling at a premium, its current yield will be less than its capital gains yield.
e. All else equal, bonds with larger coupons have less price risk than bonds with smaller coupons.
Answer Options:
a. False
b. False
c. False
d. False
e. True
Answer: e. True
Question: Sinking funds are provisions included in bond indentures that require companies to retire bonds on a scheduled basis prior to their final maturity. Many indentures allow the company to acquire bonds for sinking fund purposes by either (1) purchasing bonds on the open market at the going market price or (2) selecting the bonds to be called by a lottery administered by the trustee, in which case the price paid is the bond’s face value.
Answer Options:
a. True
b. False
Answer: a. True
Question: Because the maturity risk premium is normally positive, the yield curve must have an upward slope. If you measure the yield curve and find a downward slope, you must have done something wrong.
Answer Options:
a. True
b. False
Answer: b. False
Question: Time lines cannot be constructed for annuities unless all the payments occur at the end of the periods.
Answer Options:
a. True
b. False
Answer: b. False
Question: The greater the number of compounding periods within a year, then (1) the greater the future value of a lump sum investment at Time 0 and (2) the greater the present value of a given lump sum to be received at some future date.
Answer Options:
a. True
b. False
Answer: b. False
Question: Other things equal, a firm will have to pay a higher coupon rate on its subordinated debentures than on its second mortgage bonds.
Answer Options:
a. True
b. False
Answer: a. True
Question: The slope of the SML is determined by investors’ aversion to risk. The greater the average investor’s risk aversion, the steeper the SML.
a. True
b. False
Answer Options:
Answer: True
Question: Starting to invest early for retirement increases the benefits of compound interest.
Answer Options:
a. True
b. False
Answer: a. True
Question: The prices of high-coupon bonds tend to be less sensitive to a given change in interest rates than low-coupon bonds, other things held constant.
Answer Options:
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: Disregarding risk, if money has time value, it is impossible for the present value of a given sum to exceed its future value.
Answer Options:
a. True
b. False
Answer: b. False