Question 1

The value-at-risk method is intended to warn investors about the potential maximum loss that could occur.

Accepted Answer

The value-at-risk method is a risk management technique used to measure and quantify potential losses in an investment or portfolio. It provides an estimate of the maximum loss that could be expected at a certain level of confidence and is intended to help investors make informed decisions about risk management and allocation of resources.

Question 2

The market risk premium is:

Accepted Answer

The market risk premium is the additional return an investor expects to receive from investing in the market as opposed to a risk-free asset. It is calculated as the difference between the expected return of the market and the risk-free rate. Therefore, the correct choice is B – the return of the market in excess of the risk-free rate.

Question 3

The U.S. government's budget deficit has a significant impact on the bond market but does not affect the stock market.

Accepted Answer

The budget deficit can potentially affect both the bond and stock markets. Increased deficits can lead to higher interest rates, which can impact bond yields and prices, and potentially reduce demand for stocks as higher interest rates increase borrowing costs for companies.

Question 4

Investors can avoid unsystematic risk by:

Accepted Answer

Holding diversified portfolios is the best way to avoid unsystematic risk as it reduces the impact of any one company or industry's performance on the overall portfolio. The capital asset pricing model and free cash flow model are used to determine the expected return of an investment and do not necessarily help to reduce unsystematic risk. Investing in stocks with low PE ratios may be a good strategy for selecting individual stocks, but it does not ensure protection against unsystematic risk.

Question 5

If the standard deviation of a stock's returns over the last 12 quarters is 4 percent, and if there is no perceived change in volatility, there is a ____ percent probability that the stock'sreturns will be within ____ percentage points of the expected outcome.

Accepted Answer

The standard deviation of a stock's returns over the last 12 quarters is 4 percent, which means that there is a 68% probability that the stock's returns will be within 4 percentage points of the expected outcome.

Question 6

Regarding the implied standard deviation, by plugging in the actual option premium paid by investors for a specific stock in the option-pricing model, it is possible to derive the anticipatedvolatility level.

Accepted Answer

This is true. The implied volatility can be derived by inputting the option prices into an option-pricing model, which can then derive the anticipated volatility level.

Question 7

Which of the following is incorrect regarding the capital asset pricing model (CAPM)?

Accepted Answer

The CAPM is specifically concerned with systematic risk, which is the risk that affects the entire market or a particular industry, rather than the risk specific to an individual company (unsystematic risk). Therefore, choice C is incorrect. Choices A and B are correct.

Question 8

The limitations of the dividend discount model are most pronounced for a firm that

Accepted Answer

The dividend discount model assumes that a company pays out dividends and does not retain all earnings for future growth. Therefore, the model is not suitable for a firm that retains all of its earnings.

Question 9

The ____ is not a measure of a stock's risk.

Accepted Answer

A stock's return is not a measure of its risk. While high returns can be associated with high risk, they are not a direct measure of risk itself. The other choices, including stock price volatility, beta, and value-at-risk method, are all commonly used measures of a stock's risk.

Question 10

Portfolio managers who monitor systematic risk rather than total risk are more concerned about stock volatility than about beta.

Accepted Answer

Portfolio managers who monitor systematic risk are more concerned about beta, which measures a stock's volatility in relation to the market, rather than the stock's total individual volatility.

Question 11

A portfolio's beta is the sum of the individual forecasted betas, weighted by the market value of each stock.

Accepted Answer

A portfolio's beta is not simply the sum of the individual forecasted betas. It also depends on the correlation of the individual stocks and their weight within the portfolio. The formula for a portfolio's beta is the weighted average of the individual stock betas, where the weights are the proportions of each stock's market value relative to the total market value of the portfolio.

Question 12

Which of the following is not a type of factor that drives stock prices, according to your text?

Accepted Answer

The text states that all of the above factors (economic, market-related, and firm-specific) drive stock prices. Therefore, none of the choices are incorrect.

Question 13

Regarding the value-at-risk method, the same methods used to derive the maximum expected loss of one stock can be applied to derive the maximum expected loss of a stock portfolio for a givenconfidence level.

Accepted Answer

The value-at-risk method can be applied to derive the maximum expected loss of a stock portfolio for a given confidence level.

Question 14

If beta is thought to be the appropriate measure of risk, a stock's risk-adjusted returns should be determined by the Sharpe index.

Accepted Answer

The Sharpe Ratio is used to measure the risk-adjusted return of an investment, but it does not specifically use beta as its measure of risk. Instead, it uses the standard deviation of the portfolio's excess return over a risk-free rate. Beta, as a measure of risk, is more closely associated with the Capital Asset Pricing Model (CAPM) for determining expected returns based on the market risk.

Question 15

Steam Corp. has a beta of 1.5. The prevailing risk-free rate is 5 percent, and the annual market return in recent years has been 11 percent. Based on this information, the required rate of returnon Steam Corp. stock is ____ percent.

Accepted Answer

The answer of Steam Corp. has a beta of 1.5....

Question 16

Beta serves as a measure of risk because it can be used to derive a probability distribution of returns based on a set of market returns.

Accepted Answer

Beta measures the volatility of a stock or portfolio relative to the overall market. It can be used in conjunction with historical market returns to estimate the expected returns of an investment and its associated risk. By analyzing the beta of a stock or portfolio, investors can determine how likely it is to outperform or underperform the market over a given period of time.

Question 17

____ are not a firm-specific factor that affect stock prices.

Accepted Answer

Exchange rates are not specific to any one firm and affect all firms in the same way, therefore they are not considered a firm-specific factor that affects stock prices. The other choices (B, C, D) are firm-specific factors as they directly relate to the actions and performance of individual firms.

Question 18

The general mood of investors represents:

Accepted Answer

The general mood of investors is commonly referred to as "investor sentiment". It can be a key driver of market trends and can impact stock prices.

Question 19

The ____ is not a factor used in the capital asset pricing model (CAPM) to derive the return of an asset.

Accepted Answer

The dividend growth rate is not a factor included in the CAPM formula, which includes the risk-free rate, market return, and covariance between the asset's returns and market returns.

Question 20

Fabrizio, Inc. is expected to generate earnings of $1.50 per share this year. If the mean ratio of share price to expected earnings of competitors in the same industry is 20, then the stock priceper share is $____.

Accepted Answer

If the mean price-to-earnings ratio in the industry is 20, the stock price can be calculated by multiplying the earnings per share by the price-to-earnings ratio:
Stock Price = Earnings per share x Price-to-earnings ratio
Stock Price = $1.50 x 20
Stock Price = $30
Therefore, the stock price per share is $30.

Quiz 11: Stock Valuation and Risk