Question 1

Two conditions are used to determine whether or not a stock is in equilibrium: (1) Does the stock's market price equal its intrinsic value as seen by the marginal investor, and (2) does the expected return on the stock as seen by the marginal investor equal this investor's required return? If either of these conditions, but not necessarily both, holds, then the stock is said to be in equilibrium.

Accepted Answer

For a stock to be in equilibrium, both conditions must hold: the stock's market price must equal its intrinsic value as seen by the marginal investor, and the expected return on the stock as seen by the marginal investor must equal this investor's required return.

Question 2

If markets are in equilibrium, which of the following conditions will exist?
A) Each stock's expected return should equal its realized return as seen by the marginal investor.
B) Each stock's expected return should equal its required return as seen by the marginal investor.
C) All stocks should have the same expected return as seen by the marginal investor.
D) The expected and required returns on stocks and bonds should be equal.
E) All stocks should have the same realized return during the coming year.

Accepted Answer

In order for markets to be in equilibrium, each stock's expected return should equal its required return as seen by the marginal investor. This is because in equilibrium, the market price of a stock is such that it provides investors with the expected return required to compensate for the risk associated with holding the stock. If the expected return is less than the required return, investors will not be willing to purchase the stock, and if the expected return is greater than the required return, investors will bid up the price of the stock until the expected return equals the required return. Therefore, in equilibrium, each stock's expected return should equal its required return.

Question 3

If a stock's expected return as seen by the marginal investor exceeds this investor's required return, then the investor will buy the stock until its price has risen enough to bring the expected return down to equal the required return.

Accepted Answer

This is known as the equilibrium condition in finance, where the marginal investor's expected return matches their required return, resulting in a stable stock price. If the expected return is higher, it indicates that the stock is undervalued, and investors will buy until the price increases and expected returns decrease.

Question 4

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
A) the expected future return must be less than the most recent past realized return.
B) the past realized return must be equal to the expected return during the same period.
C) the required return must equal the realized return in all periods.
D) the expected return must be equal to both the required future return and the past realized return.
E) the expected future return must be equal to the required return.

Accepted Answer

For a stock to be in equilibrium, the expected future return must be equal to the required return. This means that investors are not expecting any abnormal profits or losses from holding the stock and are satisfied with the risk level of the stock. If the expected future return is greater than the required return, investors will want to buy the stock which will increase the demand and drive up the price until the expected return equals the required return. Similarly, if the expected future return is less than the required return, investors will want to sell the stock which will decrease the demand and drive down the price until the expected return equals the required return. Therefore, for a stock to be in equilibrium, the expected future return must be equal to the required return.

Question 5

Which of the following statement completions is NOT CORRECT? For a profitable firm, when MACRS accelerated depreciation is compared to straight-line depreciation, MACRS accelerated allowances produce
A) Higher depreciation charges in the early years of an asset's life.
B) Larger cash flows in the earlier years of an asset's life.
C) Larger total undiscounted profits from the project over the project's life.
D) Smaller accounting profits in the early years, assuming the company uses the same depreciation method for tax and book purposes.
E) Lower tax payments in the earlier years of an asset's life.

Accepted Answer

MACRS accelerated allowances result in larger total undiscounted profits from the project over the project's life compared to straight-line depreciation. This is because the accelerated depreciation allows for larger tax deductions in the earlier years, resulting in lower taxes and higher cash flows. However, this does not necessarily mean that the company will have higher profits when discounted to present value or when considering the time value of money.

Question 6

Other things held constant, which of the following would increase the NPV of a project being considered?
A) A shift from straight-line to MACRS depreciation.
B) Making the initial investment in the first year rather than spreading it over the first three years.
C) An increase in the discount rate associated with the project.
D) An increase in required net operating working capital.
E) The project would decrease sales of another product line.

Accepted Answer

The answer of Other things held constant, which of the...

Question 7

If a stock's market price exceeds its intrinsic value as seen by the marginal investor, then the investor will sell the stock until its price has fallen down to the level of the investor's estimate of the intrinsic value.

Accepted Answer

This is known as the principle of arbitrage, that the market price will eventually come into equilibrium with the intrinsic value as investors buy or sell the stock based on their estimation of its worth.

Question 8

For a stock to be in equilibrium, two conditions are necessary: (1) The stock's market price must equal its intrinsic value as seen by the marginal investor and (2) the expected return as seen by the marginal investor must equal this investor's required return.

Accepted Answer

For a stock to be in equilibrium, both conditions mentioned in the statement are necessary. The market price should reflect the stock's intrinsic value as seen by the marginal investor, and the expected return should match the investor's required return.

Quiz 18: Stock Equilibrium and Project Evaluation

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

If a stock's expected return as seen by the marginal investor exceeds this investor's required return, then the investor will buy the stock until its price has risen enough to bring the expected return down to equal the required return.

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

Which of the following statement completions is NOT CORRECT? For a profitable firm, when MACRS accelerated depreciation is compared to straight-line depreciation, MACRS accelerated allowances produce

Other things held constant, which of the following would increase the NPV of a project being considered?

If a stock's market price exceeds its intrinsic value as seen by the marginal investor, then the investor will sell the stock until its price has fallen down to the level of the investor's estimate of the intrinsic value.

For a stock to be in equilibrium, two conditions are necessary: (1) The stock's market price must equal its intrinsic value as seen by the marginal investor and (2) the expected return as seen by the marginal investor must equal this investor's required return.