Question 1

The return expected from an asset is fully defined by its

Accepted Answer

The answer of The return expected from an asset is...

Question 2

The process that links risk and return in order to determine the worth of an asset is termed

Accepted Answer

Valuation is the process of determining the current worth of an asset, based on various factors such as risk and potential return. This process considers both quantitative and qualitative data to come up with a realistic estimate of the asset's value. Evaluation, on the other hand, is a broader term that includes the process of assessing the performance or effectiveness of an asset, organization, or person. Discounting and variable growth are related concepts but are not directly linked to the process of determining the worth of an asset.

Question 3

AFK Inc.'s next dividend payment will be $4.00 per share. The dividends are anticipated to maintain a 5% growth rate forever. If AFK stock currently sells for $20 per share, what is the dividend yield?

Accepted Answer

The dividend yield is calculated as the annual dividend divided by the current stock price. Here, $4.00 / $20 = 0.20 or 20%.

Question 4

The __________ rate of interest is the actual rate charged by the supplier and paid by the demander of funds.

Accepted Answer

The nominal rate of interest is the actual rate charged by the supplier and paid by the demander of funds, without adjusting for inflation.

Question 5

The_________ is the annual rate of interest earned on a security purchased on a given date and held to maturity.

Accepted Answer

The yield to maturity is the annual rate of interest earned on a security purchased on a given date and held to maturity. It takes into account the current market price of the security as well as any interest payments made during its term. The yield to maturity is often used as a measure of the overall return on a bond or other fixed-income security.

Question 6

Economically rational buyers and sellers use their assessment of an asset's risk and return todetermine its value. Relative to this concept, which of the following is true:

Accepted Answer

To a buyer, the maximum price they would pay for an asset is determined by their assessment of its risk and return. This represents the asset's value to the buyer. Therefore, choice C is correct. Choice A is also true, as market forces can sometimes result in a value that differs from the asset's true value. Choices B and D are incorrect.

Question 7

Common stocks are difficult to value for all the following reasons EXCEPT

Accepted Answer

The fact that the Board of Directors changes periodically does not directly impact the valuation of common stocks. A, B, and D are all valid reasons for why common stocks can be difficult to value.

Question 8

For bonds with the same time to maturity, __________bonds have the lowest yield to maturity.

Accepted Answer

Government of Canada bonds are considered the safest investment because they are backed by the Canadian government's full faith and credit. Therefore, they usually offer lower interest rates but are considered low risk. The other options are corporate bonds, and while they may offer higher interest rates, they also have a higher risk of default.

Question 9

The key inputs to the valuation process include

Accepted Answer

The answer of The key inputs to the valuation process...

Question 10

Calculate the value of a $1,000 bond which has 10 years until maturity and pays quarterly interest at an annual coupon rate of 12 percent. The required return on similar-risk bonds is 20 percent.

Accepted Answer

The bond's value is calculated using the present value of its future cash flows, which include quarterly coupon payments and the face value at maturity. With a 12% annual coupon rate, the quarterly payment is $30. The required return is 5% per quarter. Using the present value formula for an annuity and a lump sum, the bond's value is approximately $657.

Question 11

A firm has an issue of preferred stock outstanding that has a stated annual dividend of $4. Therequired return on the preferred stock has been estimated to be 16 percent. The value of thepreferred stock is _________ .

Accepted Answer

The value of preferred stock is calculated by dividing the annual dividend by the required return. Here, $4 / 0.16 = $25.

Question 12

If the expected return is above the required return on an asset, rational investors will

Accepted Answer

Rational investors will buy the asset because it offers a return higher than required, driving the price up until the expected return aligns with the required return.

Question 13

The cost of long-term debt generally  _________that of short-term debt.

Accepted Answer

Long-term debt typically carries a higher cost than short-term debt due to the increased risk and uncertainty over a longer period.

Question 14

If expected return is less than required return on an asset, rational investors will

Accepted Answer

If the expected return is less than the required return, it means that the asset is not providing enough return to compensate for the risk taken. Rational investors will sell the asset, which will increase the supply and decrease the demand, leading to a decrease in price. As the price decreases, the expected return will increase and eventually reach the required return. Therefore, C is the best answer.

Question 15

The ABC company has two bonds outstanding that are the same except for the maturity date. BondD matures in 4 years, while Bond E matures in 7 years. If the required return changes by 15 percent

Accepted Answer

Bond E has a longer maturity and therefore a higher duration, meaning its price is more sensitive to changes in interest rates. A 15% change in required return will have a greater impact on the price of Bond E compared to Bond D. Therefore, the correct answer is A.

Question 16

According to the efficient market theory,

Accepted Answer

The efficient market theory suggests that in an efficient market, prices of actively traded stocks reflect all available information and are thus a true reflection of a stock's intrinsic value. Therefore, prices do not differ from their true values, and cannot be consistently under- or over-valued.

Question 17

_________is a guide to the firm's value if it is assumed that investors value the earnings of a given firm in the same way they do the average firm in the industry.

Accepted Answer

The P/E multiple is a guide to the firm's value based on how investors value earnings. It assumes that investors value the earnings of a given firm in the same way they do the average firm in the industry. The higher the P/E multiple, the higher the value placed on a firm's earnings. The P/E multiple is calculated by dividing the current market price per share by the earnings per share.

Question 18

A firm has experienced a constant annual rate of dividend growth of 9 percent on its common stock and expects the dividend per share in the coming year to be $2.70. The firm can earn 12 percent on similar risk involvements. The value of the firm's common stock is _________ .

Accepted Answer

Using the constant growth formula: 
P0 = D1/(r-g) 
where 
D1 = expected dividend per share next year = $2.70 
r = required rate of return = 12% 
g = growth rate of dividends = 9%

P0 = $2.70/(0.12-0.09) = $90

Therefore, the value of the firm's common stock is $90 per share.

Question 19

If the required return is greater than the coupon rate, a bond will sell at

Accepted Answer

When the required return is greater than the coupon rate, investors will demand a higher yield or return on their investment. As a result, the bond's price will decrease, and it will sell at a discount.

Question 20

The nominal rate of interest is composed of

Accepted Answer

The answer of The nominal rate of interest is composed...

Quiz 8: Valuation of Financial Securities