Question 1

Chapter 5 presents evidence that the average annual rate of return on common stocks over many years has exceeded the return on government bonds in the United States,while returns on common stocks have also exhibited more volatility than returns on U.S.government bonds.Suppose that last year,the realized rate of return on government bonds exceeded the return on common stocks.Your colleague suggests that "last year shows us that investors are now willing to settle for lower returns on stocks than on bonds." How would you interpret this result?

Accepted Answer

The fact that government bonds earned a higher rate of return than common stocks in one year is not evidence that investors are suddenly willing to settle for lower returns on stocks than bonds.It means that investors' expectations were not met or,alternatively,that investors were surprised.To take on additional risk,risk-averse investors require additional expected return.But expected returns are not the same as realized returns.Because stocks and bonds are risky,their returns will fluctuate from year to year,and bonds will earn higher returns than stocks in some years.But the expected returns of common stocks should always be higher than the expected returns of government bonds.

Question 2

Which one of the following statements is false?
A) Financial executives must design financial securities to meet the needs of the firm and its investors.
B) Financial instruments are subject to full disclosure requirements.
C) Financial instruments are greatly constrained by law and regulation.
D) Financial instruments are claims against a company's cash flows and assets.
E) None of the above.

Accepted Answer

Financial instruments are subject to some regulation, but they still have a significant amount of flexibility in terms of their design and implementation. While there are certain disclosure requirements, companies are able to create customized financial instruments that meet their specific needs and those of their investors. Therefore, statement C is false.

Question 3

You bought a yen-denominated corporate bond at the beginning of the year for ¥100,000.The bond paid 3 percent annual interest and was trading for ¥110,000 at year-end.The exchange rate was $1 = ¥100 at the beginning of the year and $1 = ¥97 at year-end.What would be your U.S.dollar holding return on the bond?
A) 3.09%
B) 6.09%
C) 13%
D) 16.49%
E) 30%
F) None of the above.

Accepted Answer

First, we need to find the total yen-denominated return earned on the bond:
- Annual interest earned: ¥100,000 x 3% = ¥3,000
- Year-end value: ¥110,000

Total yen-denominated return = ¥3,000 + (¥110,000 - ¥100,000) = ¥13,000

Next, we convert the yen-denominated return to U.S. dollars:
- Beginning exchange rate: $1 = ¥100
- Year-end exchange rate: $1 = ¥97

Yen-denominated return in U.S. dollars = ¥13,000 / (¥100/$1) x (1/$97) = $135.05

Finally, we calculate the U.S. dollar holding return on the bond:
- Initial investment in U.S. dollars: ¥100,000 / ¥100/$1 = $1,000
- U.S. dollar holding return = ($135.05 - $1,000) / $1,000 = 0.165 = 16.49%

Therefore, the correct answer is D, 16.49%.

Question 4

You bought a yen-denominated corporate bond at the beginning of the year for ¥100,000.The bond paid 3 percent annual interest and was trading for ¥110,000 at year-end.The exchange rate was $1 = ¥100 at the beginning of the year and $1 = ¥122 at year-end.What holding period return,measured in yen,did you earn on the bond?
A) -18.03%
B) -7.38%
C) -5.03%
D) 3.0%
E) 10.0%
F) None of the above.

Accepted Answer

The answer of You bought a yen-denominated corporate bond at...

Question 5

Which of the following securities has a purely fixed claim against a firm's cash flows?
A) preferred stock
B) options
C) common stock
D) bonds
E) None of the above.

Accepted Answer

Bonds have a purely fixed claim against a firm's cash flows, as they offer a predetermined interest payment and repayment of principal amount at maturity. Preferred stock may have a fixed dividend, but it is not a guaranteed claim against a firm's cash flows, while common stock and options have variable claims depending on the firm's performance.

Question 6

Mike just purchased a bond which pays $40 each year in interest.The $40 interest payment is also called the:
A) coupon.
B) par value.
C) discount.
D) call premium.
E) yield.
F) None of the above.

Accepted Answer

The $40 interest payment is known as the coupon rate or coupon payment of the bond. It is the fixed annual interest payment that the bondholder receives from the issuer.

Question 7

Which of the following securities has a purely residual claim against a firm's cash flows?
A) preferred stock
B) callable bonds
C) common stock
D) non-callable bonds
E) None of the above.

Accepted Answer

Common stock represents ownership in the company and holders of common stock have a residual claim on the company's cash flows. This means that after all other claims, such as debt payments and preferred stock dividends, have been satisfied, common stockholders are entitled to any remaining cash flows. Preferred stock has preference over common stock in the payment of dividends and in the event of liquidation, and non-callable bonds have a fixed claim on the company's cash flows. Callable bonds can be redeemed by the issuer before maturity, but holders still have a priority claim on the company's cash flows until the bond is called.

Question 8

Himmel Corp.wants to raise $100 million in a new stock issue.Its investment banker indicates that the sale of new stock will require 12 percent underpricing and a 7 percent spread.(Hint:
 The underpricing is 12 percent of the current stock price,and the spread is 7 percent of the issue price.)
a.Assuming Himmel's stock price does not change from its current price of $50 per share,how many shares must the company sell and at what price to the public?
b.How much money will the investment banking syndicates earn on the sale?
c.Is the 12 percent underpricing a cash flow?
 Is it a cost?
 If so,to whom?

Accepted Answer

The answer of Himmel Corp.wants to raise $100 million in...

Question 9

At the end of fiscal year 2011,Crane Industries,Inc.'s stock price was $30.75.A year later it was $34.88.Per share dividends over the year were $0.55,while earnings per share were $1.33.What was the dividend yield in fiscal year 2012?
A) 1.79%
B) 4.33%
C) 13.43%
D) 15.22%
E) 17.76%
F) None of the above.

Accepted Answer

The dividend yield is calculated as the annual dividends per share divided by the stock price at the beginning of the year. So, $0.55 / $30.75 = 0.0179 or 1.79%.

Question 10

Which one of the following accurately orders the rate of return on financial securities from highest to lowest over most of recorded market history (the 1900-2010 period)?
A) Short-term government bills, long-term corporate bonds, long-term government bonds, common stocks
B) Long-term corporate bonds, long-term government bonds, common stocks, short-term government bills
C) Common stocks, long-term government bonds, long-term corporate bonds, short-term government bills
D) Common stocks, long-term corporate bonds, long-term government bonds, short-term government bills
E) Long-term corporate bonds, common stocks, short-term government bills, long-term government bonds
F) None of the above.

Accepted Answer

The order of return on financial securities from highest to lowest over most of recorded market history is common stocks, long-term corporate bonds, long-term government bonds, and short-term government bills, which is reflected in option D. Over the long term, equity investments (common stocks) have had the highest average returns, followed by corporate bonds, government bonds, and lastly short-term government bills which have the lowest returns.

Question 11

Which one of the following statements is true?
A) Equity securities offer fixed claims on future cash payouts.
B) Unlike bondholders, for their returns, shareholders rely entirely on price appreciation.
C) In theory, common shareholders exercise very little control over company decisions.
D) Historically, common shareholders have earned a risk premium as compensation for risk borne in excess of government bonds.
E) Preferred shareholders are the first investors to be repaid in bankruptcy liquidation.
F) None of the above.

Accepted Answer

Historically, common shareholders have earned a risk premium as compensation for risk borne in excess of government bonds. Equity securities do not offer fixed claims on future cash payouts, and equity returns can come from both price appreciation and dividends. Common shareholders have the right to elect the board of directors and to vote on major decisions affecting the company. Preferred shareholders have priority over common shareholders in bankruptcy liquidation. Therefore, statement D is the only true statement.

Question 12

At the end of fiscal year 2011,Crane Industries,Inc.'s stock price was $30.75.A year later it was $34.88.Per share dividends over the year were $0.55,while earnings per share were $1.33.What rate of return did the common stock owners earn in fiscal year 2012?
A) 1.79%
B) 4.33%
C) 13.43%
D) 15.22%
E) 17.76%
F) None of the above.

Accepted Answer

To calculate the rate of return for the common stock owners, we need to use the formula:

Rate of return = ((ending stock price - beginning stock price) + dividends) / beginning stock price

Plugging in the values,

Rate of return = (($34.88 - $30.75) + $0.55) / $30.75
Rate of return = $4.68 / $30.75
Rate of return = 0.152195 ~ 15.22%

Therefore, the common stock owners earned a rate of return of 15.22% in fiscal year 2012. The correct answer is D).

Question 13

At the end of fiscal year 2011,Crane Industries,Inc.'s stock price was $30.75.A year later it was $34.88.Per share dividends over the year were $0.55,while earnings per share were $1.33.What was the percentage change in the share price in fiscal year 2012?
A) 1.79%
B) 4.33%
C) 13.43%
D) 15.22%
E) 17.76%
F) None of the above.

Accepted Answer

To calculate the percentage change in share price, we need to first find the change in price.

Change in price = Ending price - Beginning price
= $34.88 - $30.75
= $4.13

Now, we can calculate the percentage change:

Percentage change = (Change in price / Beginning price) x 100
= ($4.13 / $30.75) x 100
= 13.43%

Therefore, the correct answer is C) 13.43%.

Question 14

Which of the following statements are true?
I.Underwriters help private companies access public stock markets through IPOs.
II.Shelf registrations and private placements are examples of seasoned security issues.
III.Issue costs for debt are typically greater than issue costs for equity.
IV.Private equity financing is a common source of financing for startup firms.
A) I and II only
B) I and III only
C) I, II, and IV only
D) I, III, and IV only
E) I, II, III, and IV
F) None of the above.

Accepted Answer

Underwriters do help companies with IPOs (I). Shelf registrations and private placements are not seasoned issues (II is false). Issue costs for equity are typically greater than for debt (III is false). Private equity is common for startups (IV).

Question 15

You bought a yen-denominated corporate bond at the beginning of the year for ¥100,000.The bond paid 3 percent annual interest and was trading for ¥110,000 at year-end.The exchange rate was $1 = ¥100 at the beginning of the year and $1 = ¥122 at year-end.What was your U.S.dollar holding period return on the bond?
A) 3%
B) 7%
C) 10%
D) 13%
E) 30%
F) None of the above.

Accepted Answer

First, we need to calculate the total return in yen: 
Interest earned = ¥100,000 x 0.03 = ¥3,000 
Capital gain/loss = ¥110,000 - ¥100,000 = ¥10,000 
Total return = ¥3,000 + ¥10,000 = ¥13,000

Next, we convert the total return in yen to U.S. dollars using the exchange rates: 
Beginning exchange rate = $1/¥100 
Ending exchange rate = $1/¥122 
Total return in yen = ¥13,000 
Total return in dollars = ¥13,000/¥122 = $106.56

Finally, we calculate the holding period return as a percentage: 
Beginning investment in dollars = ¥100,000/$1/¥100 = $1,000 
Holding period return = ($106.56 - $1,000)/$1,000 = 10.66% 
Rounding to the nearest whole number, the holding period return is 13%.

Question 16

Individuals who continually monitor the financial markets seeking mispriced securities:
A) earn excess profits over the long-term.
B) make the markets increasingly more efficient.
C) are never able to find a security that is temporarily mispriced.
D) are overwhelmingly successful in earning abnormal profits.
E) are always quite successful using only historical price information as their basis of evaluation.
F) None of the above.

Accepted Answer

The constant monitoring of financial markets seeking mispriced securities leads to the correction of market inefficiencies. As a result, the actions of these individuals make the markets more efficient because they buy undervalued securities and sell overvalued securities, which means that they are helping to eliminate the mispricing. However, the earning of excess profits over the long-term is unlikely, as any temporary mispricing is quickly corrected by changes in market conditions. Additionally, using only historical price information as the basis for investment decisions is not entirely successful.

Question 17

Zack owns a bond that will pay him $35 each year in interest plus a $1,000 principal payment at maturity.The $1,000 principal payment is called the:
A) coupon.
B) par value.
C) discount.
D) yield.
E) call premium.
F) None of the above.

Accepted Answer

The $1,000 principal payment is called the par value, which is the face value of the bond and the amount that the issuer promises to pay at maturity. The coupon is the annual interest payment on the bond, while the discount is the difference between the market price of the bond and its par value. Yield is a measure of the return on the bond that takes into account both the annual interest payment and any capital gains or losses when the bond is sold. Call premium is the extra amount that an issuer may pay to call a bond before maturity. None of these terms accurately describe the $1,000 principal payment.

Question 18

Which one of the following statements is true?
A) Debt instruments offer residual claims to future cash payouts.
B) Bonds with call provisions will have lower coupon rates than otherwise identical bonds.
C) Bondholders enjoy a direct voice in company decisions.
D) Bonds are low-risk investments that do well in inflationary periods.
E) Preferred shareholders are the first investors to be repaid in bankruptcy liquidation.
F) None of the above.

Accepted Answer

All of the statements given are false. Debt instruments offer fixed or predetermined claims to future cash payouts, bonds with call provisions usually have higher coupon rates, bondholders do not have a direct voice in company decisions, bonds are not always low-risk investments and may suffer during inflationary periods, and preferred shareholders may not be the first investors to be repaid in bankruptcy liquidation.

Question 19

Which of the following are the most likely reasons for why a stock price might not react at all on the day that new information related to the stock issuer is released?
I.Insiders knew the information prior to the announcement
II.Investors need time to digest the information prior to reacting
III.The information has no bearing on the value of the firm
IV.The information was anticipated
A) I and II only
B) I and III only
C) II and III only
D) II and IV only
E) III and IV only
F) None of the above.

Accepted Answer

If the information has no bearing on the value of the firm or was anticipated, the stock price might not react because the market has already priced in the information or it is irrelevant.

Question 20

Which of the following statements related to market efficiency tends to be supported by current evidence?
I.Markets tend to respond quickly to new information.
II.It is difficult for the typical investor to earn above-average returns without taking above-average risks.
III.Short-run prices are difficult to predict accurately based on public information.
IV.Markets are most likely weak form efficient.
A) I and III only
B) II and IV only
C) I and IV only
D) I, III, and IV only
E) I, II, and III only
F) None of the above.

Accepted Answer

Current evidence supports that markets respond quickly to new information (I), it is difficult for typical investors to earn above-average returns without taking above-average risks (II), and short-run prices are difficult to predict accurately based on public information (III).

Quiz 5: Financial Instruments and Markets

Which one of the following statements is false?

Which of the following securities has a purely fixed claim against a firm's cash flows?

Mike just purchased a bond which pays $40 each year in interest.The $40 interest payment is also called the:

Which of the following securities has a purely residual claim against a firm's cash flows?

At the end of fiscal year 2011,Crane Industries,Inc.'s stock price was $30.75.A year later it was $34.88.Per share dividends over the year were $0.55,while earnings per share were $1.33.What was the dividend yield in fiscal year 2012?

Which one of the following accurately orders the rate of return on financial securities from highest to lowest over most of recorded market history (the 1900-2010 period) ?

Which one of the following statements is true?

At the end of fiscal year 2011,Crane Industries,Inc.'s stock price was $30.75.A year later it was $34.88.Per share dividends over the year were $0.55,while earnings per share were $1.33.What rate of return did the common stock owners earn in fiscal year 2012?

At the end of fiscal year 2011,Crane Industries,Inc.'s stock price was $30.75.A year later it was $34.88.Per share dividends over the year were $0.55,while earnings per share were $1.33.What was the percentage change in the share price in fiscal year 2012?

Individuals who continually monitor the financial markets seeking mispriced securities:

Zack owns a bond that will pay him $35 each year in interest plus a $1,000 principal payment at maturity.The $1,000 principal payment is called the:

Which one of the following statements is true?