Question 1

Average returns on high-risk assets are higher than those on low-risk assets.

Accepted Answer

This is generally true as high-risk assets require investors to take on more risk and uncertainty, which can lead to higher returns as compensation for the increased risk. However, there may be exceptions to this rule and individual circumstances may vary.

Question 2

The historical record fails to show that investors have received a risk premium for holding risky assets.

Accepted Answer

Over the long-term, historical data shows that investors have received a higher return for holding risky assets such as stocks, compared to less risky assets such as bonds or cash. This higher return is known as the "risk premium". However, short-term fluctuations and periods of market volatility may challenge this trend.

Question 3

If one portfolio's variance exceeds that of another portfolio, its standard deviation will also be greater than that of the other portfolio.

Accepted Answer

This is true because standard deviation is the square root of variance. So if one portfolio has a higher variance, its standard deviation will also be higher.

Question 4

Long-term corporate bonds are the only portfolio of securities found to be riskier than common stocks.

Accepted Answer

Long-term corporate bonds are generally considered to be less risky than common stocks as they provide a fixed income stream and have a lower market volatility. Common stocks, on the other hand, have potential for higher returns but also have a higher risk due to market fluctuations and individual company risks.

Question 5

The TSX 300 accounts for nearly 50 percent of the total value of stocks traded in Canada.

Accepted Answer

The S&P/TSX Composite Index, not the TSX 300, is the primary indicator for the Canadian equities market, representing the majority of market capitalization for Canadian-based companies listed on the Toronto Stock Exchange (TSX).

Question 6

Standard deviation can be calculated as the square of the variance.

Accepted Answer

Standard deviation is the square root of the variance, not the square of the variance.

Question 7

The covariance of two stocks was calculated at -.01733.If the standard deviation of the first stock is .106 and .164 for the second, determine the correlation.
A)-.997
B)-.887
C)-.687
D)-.587

Accepted Answer

The correlation is calculated by dividing the covariance by the product of the standard deviations of the two stocks: correlation = covariance / (std_dev1 * std_dev2) = -0.01733 / (0.106 * 0.164) = -0.997.

Question 8

For investment horizons greater than 20 years, long-term corporate bonds traditionally have outperformed common stocks.

Accepted Answer

Historically, over long periods, common stocks have generally outperformed long-term corporate bonds, reflecting the higher risk and potential for growth associated with equity investments.

Question 9

When inflation is expected to be low, the risk premium on common stocks is expected to be low.

Accepted Answer

When inflation is low, interest rates are also low, making investments in stocks more attractive. This decreases the risk premium demanded by investors, leading to a lower risk premium on common stocks.

Question 10

Market risk can be eliminated in a stock portfolio through diversification.

Accepted Answer

Market risk, also known as systematic risk, cannot be eliminated through diversification since it affects the entire market. However, diversification can help to reduce the impact of market risk on a portfolio by spreading investments across different asset classes, sectors, and geographical regions.

Question 11

The risk that remains in a stock portfolio after efforts to diversify is known as unique risk.

Accepted Answer

The risk that remains in a stock portfolio after efforts to diversify is known as systematic risk or market risk, not unique risk. Unique risk, also known as unsystematic risk, is specific to a single company or industry and can be reduced through diversification.

Question 12

Cyclical stocks tend to perform well when other stocks are performing well also.

Accepted Answer

Cyclical stocks are those that are heavily influenced by the business cycle and economic conditions. When the economy is booming and other stocks are performing well, cyclical stocks tend to do well too. This is because people are spending more money, businesses are investing more, and there is generally more economic activity. On the other hand, in a recession or downturn, cyclical stocks may perform poorly as demand for their products or services decreases.

Question 13

A market index is used to measure performance of a broad-based portfolio of stocks.

Accepted Answer

A market index is designed to track the performance of a group of stocks, often representing a specific sector or the overall market. It is used as a benchmark to evaluate the performance of individual stocks or investment portfolios. Therefore, it is used to measure the performance of a broad-based portfolio of stocks.

Question 14

Common stock is held for two years, during which time it receives an annual dividend of $10.The stock was sold for $100 and generated an average annual return of 16 percent.What price was paid for the stock?
A)$61.60
B)$64.80
C)$88.00
D)$90.91

Accepted Answer

The price paid for the stock can be calculated using the formula for the average annual return, which is given by $(\frac{P_{final} + D - P_{initial}}{P_{initial}}) \times 100 = Average\ Annual\ Return$, where $P_{final}$ is the final price of the stock, $D$ is the total dividends received, and $P_{initial}$ is the initial price paid for the stock. Rearranging the formula to solve for $P_{initial}$, and substituting the given values ($P_{final} = $100$, $D = 2 \times $10 = $20$, and the average annual return = 16%), we can solve for $P_{initial}$. This calculation results in $P_{initial} = $90.91$.

Question 15

Which of the following statements is true for a stock that sells now for $60, pays an annual dividend of $3.00, and experienced a 30 percent return on investment over the past year? Its price one year ago was:
A)$42.00.
B)$46.15.
C)$48.46.
D)$56.10.

Accepted Answer

To calculate the stock price one year ago, we need to use the formula:
Current price = (1 + return on investment) x Previous price + Dividend
$60 = (1 + 0.30) x Previous price + $3.00
Simplifying the equation, we get:
$60 = 1.3 x Previous price + $3.00
$57 = 1.3 x Previous price
Previous price = $57 / 1.3
Previous price = $43.85 (rounded to the nearest cent)
Therefore, the best option is C: $48.46 (rounded to the nearest cent). None of the other options are close to the calculated value, so they can be eliminated.

Question 16

Stock market indexes are found in several countries outside of Canada.

Accepted Answer

Stock market indexes are found in several countries around the world, such as the S&P 500 in the United States, the FTSE 100 in the United Kingdom, and the Nikkei 225 in Japan.

Question 17

Systematic risk is faced by all common stock investors.

Accepted Answer

Systematic risk, also known as market risk, is the risk that affects the overall stock market and cannot be diversified away. All common stock investors are exposed to this risk as it is inherent in the market itself.

Question 18

If when a coin is tossed the observance of a head rewards you with a dollar and the observance of a tail costs you fifty cents, how much would you expect to gain after twenty tosses?
A)$5.00
B)$7.50
C)$10.00
D)$15.00

Accepted Answer

The expected gain per toss is $0.25 (since there's a 50% chance to win $1 and a 50% chance to lose $0.50, resulting in an average gain of $0.25 per toss). Over 20 tosses, this results in an expected gain of 20 * $0.25 = $5.00.

Question 19

Which of the following statements is correct for an investor starting with $1,000 in common stocks over a 20-year investment horizon in which stocks averaged 11 percent in nominal terms and 4 percent in real terms? The portfolio value is now approximately:
A)$1,800 in real terms.
B)$3,679 in real terms.
C)$3,870 in nominal terms.
D)$8,062 in nominal terms.

Accepted Answer

To find the future value of the investment, we can use the formula: FV = PV*(1+r)^n, where PV is the present value, r is the annual rate of return, and n is the number of years.

In this case, the present value is $1,000, the annual rate of return is 11% in nominal terms (or 7% in real terms, since inflation is 4%), and the investment horizon is 20 years.

Using this formula, we can calculate the future value in nominal terms as: FV = $1,000*(1+0.11)^20 = $8,062.

Therefore, the correct answer is D, which represents the future value of the investment in nominal terms.

Question 20

An investor receives a 15 percent total return by purchasing a stock for $40 and selling it after one year with a 10 percent capital gain.How much was received in dividend income during the year?
A)$2.00
B)$2.20
C)$4.00
D)$6.00

Accepted Answer

The total return is the sum of the capital gain and the dividend income. The capital gain is 10% of $40, or $4. The total return is 15% of $40, or $6. Therefore, the dividend income is $6 - $4 = $2.

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