Question 1

How is it possible for real rates of return to increase during times when the rate of inflation increases?
A) Inflation increased more than the real return.
B) Nominal returns actually decreased.
C) Nominal returns increased more than inflation.
D)Nominal returns increased less than inflation.

Accepted Answer

Real rates of return can increase during times of inflation if nominal returns increase more than the rate of inflation. Inflation would decrease the purchasing power of the money earned, but if nominal returns increase at a greater rate, the real return would still increase. For example, if inflation is 3% and nominal returns are 7%, the real return would be 4%.

Question 2

Sue purchased a stock for $25 a share, held it for one year, received a $1.34 dividend, and sold the stock for $26.45. What nominal rate of return did she earn?
A) 11.16%
B) 14.23%
C) 12.09%
D)10.55%

Accepted Answer

R = ($26.45 + 1.34 - 25)/$25 = .1116, or 11.16%

Question 3

Stock A has 10 million shares outstanding and stock B has 5 million shares outstanding. Both stocks sell for $10 a share. What is their relative weighting if both stocks are represented in the S&P 500?
A) They have equal weighting, like all S&P 500 stocks.
B) B has twice the weighting, to account for having fewer shares.
C) A has twice the weighting, to account for having more shares.
D)They are weighted according to their expected performance.

Accepted Answer

The relative weighting of each stock in the S&P 500 is determined by their market capitalization, which is calculated by multiplying the number of shares outstanding by the stock's price per share. Stock A has a market capitalization of $100 million ($10 per share x 10 million shares) and Stock B has a market capitalization of $50 million ($10 per share x 5 million shares). Since Stock A has a larger market capitalization, it will have a greater weighting in the S&P 500. Therefore, answer choice C is correct.

Question 4

Although Standard and Poor's Composite Index contains a limited number of U.S. publicly traded stocks, the Index represents:
A) all stocks in the industrial sector.
B) all stocks priced at $50 a share or more.
C) approximately 50% of U.S. stocks traded, in market value.
D)approximately 75% of U.S. stocks traded, in market value.

Accepted Answer

The Standard and Poor's Composite Index, commonly known as the S&P 500, is designed to represent the performance of the U.S. stock market. It includes 500 of the largest companies listed on stock exchanges in the United States, covering approximately 75% of the American equity market by capitalization.

Question 5

The primary difference between U.S. Treasury bills and U.S. Treasury bonds is that the bills:
A) do not have default risk.
B) have more price volatility.
C) have a shorter maturity at time of issue.
D)offer a higher return.

Accepted Answer

U.S. Treasury bills have a shorter maturity at the time of issue, typically less than one year, while U.S. Treasury bonds have a much longer maturity, typically 10 to 30 years. Therefore, the primary difference between the two is the time period for which the government is borrowing money from investors.

Question 6

Which one of these is considered to be the safest investment?
A) U.S. Treasury bonds
B) Common stock
C) U.S. Treasury bill
D)Preferred stock

Accepted Answer

U.S. Treasury bills are considered to be the safest investment among the given options as they are backed by the U.S. government and carry very low risk of default. They are issued for a short-term period of less than one year and are sold at a discount to their face value. The return on investment is fixed and guaranteed, making them popular among risk-averse investors.

Question 7

Although several stock indexes are available to inform investors of market changes, the Dow Jones Industrial Average:
A) is the broadest-based of the market indexes.
B) is the only reliable market index.
C) accounts for approximately 70% of U.S. market value.
D)is the best-known of the U.S. market indexes.

Accepted Answer

The statement "is the best-known of the U.S. market indexes" is true, while the other options are not accurate. The Dow Jones Industrial Average is not the broadest-based or only reliable market index, and it does not account for approximately 70% of U.S. market value.

Question 8

Assume market interest rates have risen substantially in the 5 years since an investor purchased Treasury bonds that were offering a 6% return over their 15-year life. If the investor sells now he or she is likely to realize a total return that is:
A) greater than 6%.
B) less than 6%.
C) equal to 2%.
D)equal to 6%.

Accepted Answer

When market interest rates rise, the value of existing bonds with a lower interest rate decreases because investors can purchase new bonds with higher interest rates. This means that if the investor sells the Treasury bonds now, they will receive less than their original investment, resulting in a total return that is less than the original 6%. Therefore, the answer is B.

Question 9

What is the percentage return on a stock that was purchased for $48.40, paid a $1.67 dividend, and was then sold after one year for $46.20?
A) -2.50%
B) -1.10%
C) 0.23%
D)-0.33%

Accepted Answer

R = ($46.20 + 1.67 - 48.40)/$48.40 = -.0110, or -1.10%

Question 10

If a share of stock provided a 14.84% nominal rate of return over the previous year while the real rate of return was 6.65%, then the inflation rate was:
A) 8.89%.
B) 7.68%.
C) 8.03%.
D)9.12%.

Accepted Answer

h = 1.1484/1.0665 - 1 = .0768, or 7.68%

Question 11

The Dow Jones Industrial Average is:
A) the most representative of the stock market indexes.
B) an index of 500 largest corporate stocks in America.
C) an index of 30 major industrial stocks.
D)an equally weighted index of all stocks traded on the New York Stock Exchange.

Accepted Answer

The Dow Jones Industrial Average is an index of 30 major industrial stocks, making option C the correct answer. Option A is not entirely accurate because while the Dow is a well-known and widely cited index, it only represents a select group of 30 stocks and may not be the most representative of the entire stock market. Option B is incorrect because the index is not made up of the 500 largest corporate stocks in America, and option D is also incorrect because the index is not equally weighted, but rather price-weighted.

Question 12

What real rate of return is earned by a one-year investor in a bond that was purchased for $1,000, has a coupon rate of 8%, and was sold for $960 when the inflation rate was 6%?
A) -1.89%
B) 1.92%
C) -2.66%
D)2.47%

Accepted Answer

Nominal return = [$960 + (0.08 × $1,000) - $1,000]/$1,000 = 0.04Real return = 1.04/1.06 - 1 = -.0189, or -1.89%

Question 13

A maturity premium is offered on long-term Treasury bonds due to:
A) the risk of changing interest rates.
B) the risk of default.
C) their unique risk.
D)the uncertainty of their maturity date.

Accepted Answer

A maturity premium is offered on long-term Treasury bonds due to the risk of changing interest rates. Longer-term bonds are more sensitive to interest rate changes, which can lead to greater volatility in their prices. Therefore, investors demand a higher yield to compensate for this added risk.

Question 14

"Dow up 14. Story at 6:00." This means that:
A) the Dow was up 14% during today's trading.
B) 14 of the Dow's 30 stocks increased in price today.
C) a share of Dow stock went up by $14 today.
D)the Dow index increased by 14 points in today's trading.

Accepted Answer

"Dow up 14" is referring to the Dow Jones Industrial Average increasing by 14 points in today's trading.

Question 15

An investor receives a 15% total return by purchasing a stock for $40 and selling it after one year with a 5% capital gain. How much was received in dividend income during the year?
A) $2.00
B) $2.20
C) $4.00
D)$4.40

Accepted Answer

Dividend income = (.15 - .05) × $40 = $4.00

Question 16

Which one of the following statements seems most appropriate when the Dow Jones Industrial Average increases by 2%?
A) All stocks on the exchange increased by 2%.
B) All 30 DJIA stocks increased by 2%.
C) One market indicator was up by 2%.
D)The S&P 500 index increased by 2%.

Accepted Answer

The Dow Jones Industrial Average is an index that tracks the performance of 30 large publicly traded companies in the United States. An increase in the Dow by 2% indicates that these 30 companies experienced an average increase of 2% in their stock prices. It is not the case that all stocks or all 30 DJIA stocks increased by 2%, nor does it mean that the S&P 500 index increased by 2%. Therefore, option C is the most appropriate statement.

Question 17

What nominal return was received by an investor when inflation averaged 3.46% and the real rate of return was 2.5%?
A) 0.96%
B) 5.96%
C) 6.05%
D)5.47%

Accepted Answer

R = (1.0346 × 1.025) - 1 = .0605, or 6.05%

Question 18

The actual real rate of return on an investment will be positive as long as the:
A) nominal return is positive.
B) inflation rate is positive.
C) nominal return exceeds the inflation rate.
D)inflation rate exceeds the real return.

Accepted Answer

The real rate of return on an investment is the nominal return minus the inflation rate. Therefore, for the real rate of return to be positive, the nominal return must exceed the inflation rate.

Question 19

Real rates of return are typically less than nominal rates of return due to:
A) inflation.
B) capital gains.
C) dividend payments.
D)depreciation.

Accepted Answer

Inflation reduces the purchasing power of money, thereby reducing the real rate of return. Nominal rates of return do not account for the effect of inflation, whereas real rates of return do. Therefore, real rates of return are typically less than nominal rates of return. The other options (B, C, D) do not necessarily always result in a decrease in the real rate of return.

Question 20

What was the percentage return on a non-dividend-paying stock that was purchased for $40.00 and then sold after one year for $39.00?
A) -2.50%
B) -0.39%
C) -0.04%
D)-2.56%

Accepted Answer

R = ($39 - 40)/$40 = -.0250, or -2.50%

Quiz 11: Introduction to Risk, Return, and the Opportunity Cost of Capital

How is it possible for real rates of return to increase during times when the rate of inflation increases?

Sue purchased a stock for $25 a share, held it for one year, received a $1.34 dividend, and sold the stock for $26.45. What nominal rate of return did she earn?

Stock A has 10 million shares outstanding and stock B has 5 million shares outstanding. Both stocks sell for $10 a share. What is their relative weighting if both stocks are represented in the S&P 500?

Although Standard and Poor's Composite Index contains a limited number of U.S. publicly traded stocks, the Index represents:

The primary difference between U.S. Treasury bills and U.S. Treasury bonds is that the bills:

Which one of these is considered to be the safest investment?

Although several stock indexes are available to inform investors of market changes, the Dow Jones Industrial Average:

Assume market interest rates have risen substantially in the 5 years since an investor purchased Treasury bonds that were offering a 6% return over their 15-year life. If the investor sells now he or she is likely to realize a total return that is:

What is the percentage return on a stock that was purchased for $48.40, paid a $1.67 dividend, and was then sold after one year for $46.20?

If a share of stock provided a 14.84% nominal rate of return over the previous year while the real rate of return was 6.65%, then the inflation rate was:

The Dow Jones Industrial Average is:

What real rate of return is earned by a one-year investor in a bond that was purchased for $1,000, has a coupon rate of 8%, and was sold for $960 when the inflation rate was 6%?

A maturity premium is offered on long-term Treasury bonds due to:

"Dow up 14. Story at 6:00." This means that:

An investor receives a 15% total return by purchasing a stock for $40 and selling it after one year with a 5% capital gain. How much was received in dividend income during the year?

Which one of the following statements seems most appropriate when the Dow Jones Industrial Average increases by 2%?

What nominal return was received by an investor when inflation averaged 3.46% and the real rate of return was 2.5%?

The actual real rate of return on an investment will be positive as long as the:

Real rates of return are typically less than nominal rates of return due to:

What was the percentage return on a non-dividend-paying stock that was purchased for $40.00 and then sold after one year for $39.00?