Question 1

Last year,T-bills returned 2 percent while your investment in large-company stocks earned an average of 5 percent.Which one of the following terms refers to the difference between these two rates of return?

Accepted Answer

The difference between the rate of return on T-bills and large-company stocks is the risk premium. The risk premium is the return in excess of the risk-free rate of return that investors require for investing in a risky asset such as stocks.

Question 2

The average compound return earned per year over a multi-year period is called the _____ average return.

Accepted Answer

The average compound return earned per year over a multi-year period is called the geometric average return. This takes into account the compounding effect of returns over time and is a more accurate measure of the investment performance compared to arithmetic average return, which does not consider the compounding effect.

Question 3

Stacy purchased a stock last year and sold it today for $3 a share more than her purchase price.She received a total of $0.75 in dividends.Which one of the following statements is correct in relation to this investment?

Accepted Answer

Since Stacy sold the stock for more than her purchase price, she has a positive capital gain. The dividend yield is calculated by dividing the annual dividend by the purchase price, and is not related to the selling price. The total dollar return per share is the sum of the capital gain and the dividend, which in this case is $3.75. Therefore, (A) and (C) are incorrect. It is not clear whether the capital gain would have been less without the dividends, as we do not know the timing and amount of the dividends. Finally, it is not clear whether the dividend yield is greater than the capital gains yield, as we don't have enough information about the stock price or the dividend amounts.

Question 4

Small-company stocks,as the term is used in the textbook,are best defined as the:

Accepted Answer

Small-company stocks are defined as the smallest twenty percent of the firms listed on the NYSE.

Question 5

Bayside Marina just announced it is decreasing its annual dividend from $1.64 per share to $1.50 per share effective immediately.If the dividend yield remains at its pre-announcement level,then you know the stock price:

Accepted Answer

The dividend yield is calculated as the annual dividend per share divided by the stock price per share. If the dividend is decreased while the stock price remains the same, the dividend yield will also decrease. Therefore, the stock price must decrease proportionately with the dividend decrease in order for the yield to remain the same.

Question 6

Which one of the following statements best defines the efficient market hypothesis?

Accepted Answer

The efficient market hypothesis posits that at any given time, security prices fully reflect all available information, meaning that securities are priced appropriately given their inherent risk and return levels. This implies that it's impossible to consistently achieve higher returns without accepting higher risk, making securities in efficient markets essentially zero net present value investments, as they offer returns commensurate with their risk.

Question 7

Which one of the following categories of securities has had the most volatile returns over the period 1926-2010?

Accepted Answer

Small-company stocks have historically had the most volatile returns over the period 1926-2010, as they are typically less established and have a higher level of risk compared to larger and more established companies.

Question 8

As long as the inflation rate is positive,the real rate of return on a security will be ____ the nominal rate of return.

Accepted Answer

The real rate of return is the nominal rate of return minus the inflation rate. Therefore, as long as the inflation rate is positive, the real rate of return will be lower than the nominal rate of return. Thus, the best choice is C, which indicates that the real rate of return will be less than the nominal rate of return.

Question 9

Which one of the following categories of securities had the lowest average risk premium for the period 1926-2010?

Accepted Answer

According to historical data from 1926-2010, U.S. Treasury bills had the lowest average risk premium compared to other categories of securities. This is because they are considered one of the safest investments with relatively low risk and therefore have lower returns compared to other riskier securities.

Question 10

Which one of the following best defines the variance of an investment's annual returns over a number of years?

Accepted Answer

The variance is a measure of how much the actual returns deviate from the expected or average returns. The calculation involves finding the difference between the actual returns and the average return, squaring that difference, and averaging the squared differences. This is why option E, which describes the average squared difference between the actual returns and the arithmetic average return, best defines the variance. Options A, B, C, and D are not accurate definitions of variance.

Question 11

The return earned in an average year over a multi-year period is called the _____ average return.

Accepted Answer

The arithmetic average return calculates the return earned in an average year over a multiyear period by summing the annual returns and dividing by the number of years.

Question 12

Assume that the market prices of the securities that trade in a particular market fairly reflect the available information related to those securities.Which one of the following terms best defines that market?

Accepted Answer

An efficient capital market is one where the market prices of securities reflect all available information, making it difficult for investors to consistently generate abnormal returns.

Question 13

Which one of the following statements is a correct reflection of the U.S.markets for the period 1926-2010?

Accepted Answer

Based on the information given, the only statement that is correct is that U.S. Treasury bills provided a positive rate of return each and every year during the period. This is because Treasury bills are typically low-risk investments and therefore tend to provide consistent returns, although these returns may not be very high. None of the other statements are accurate based on the information given.

Question 14

Which one of the following categories of securities had the highest average return for the period 1926-2010?

Accepted Answer

Small company stocks have historically provided the highest average returns over long periods, outperforming other categories like large company stocks, government and corporate bonds, and treasury bills.

Question 15

Which of the following statements is correct in relation to a stock investment?
I.The capital gains yield can be positive,negative,or zero.
II.The dividend yield can be positive,negative,or zero.
III.The total return can be positive,negative,or zero.
IV.Neither the dividend yield nor the total return can be negative.

Accepted Answer

I is correct since capital gains yield can be positive or negative depending on the stock price movement, or zero if there is no change in stock price. 
II is incorrect since the dividend yield cannot be negative but can be zero if the company does not pay any dividends. 
III is correct since the total return can be positive or negative depending on the changes in stock price and dividend payments, or zero if there is no change in stock price and no dividend payments. 
IV is incorrect since both the dividend yield and the total return can be negative if the company's stock price declines and/or the company reduces or eliminates dividends.

Question 16

The real rate of return on a stock is approximately equal to the nominal rate of return:

Accepted Answer

The real rate of return on a stock is the nominal rate of return adjusted for inflation. Therefore, the nominal rate of return must be reduced by the inflation rate to obtain the real rate of return. This means that the real rate of return is approximately equal to the nominal rate of return minus the inflation rate.

Question 17

Which one of the following statements related to capital gains is correct?

Accepted Answer

Capital gains yield can include both realized and unrealized capital gains. It reflects the change in the price of an investment, and an increase in unrealized capital gains (the increase in the value of an investment that has not yet been sold) indeed increases the capital gains yield. This yield is typically expressed as a percentage of the investment's initial cost, not the sales price, and it does not represent the total return since it excludes dividends or interest income. Additionally, capital gains yield can be negative if the investment's value decreases.

Question 18

Which one of the following is defined by its mean and its standard deviation?

Accepted Answer

A normal distribution is defined by its mean and standard deviation. The other options are not solely defined by these two measures.

Question 19

Standard deviation is a measure of which one of the following?

Accepted Answer

Standard deviation is a statistical measure of the degree to which an individual data value tends to vary from the mean or average of the data values. In finance, it is widely used to measure the volatility or riskiness of an investment. Therefore, option B - volatility - is the correct answer.

Question 20

Which one of the following correctly describes the dividend yield?

Accepted Answer

The answer of Which one of the following correctly describes...

Quiz 12: Some Lessons From Capital Market History