The detailed legal agreement between a bond's issuer and its trustees is known as the

The detailed legal agreement between a bond's issuer and its trustees is known as the

A) collateral agreement.

B) call provision.

C) indenture.

D) covenant.

The issuance of bonds to raise capital for a corporation

A) magnifies the returns to the stockholders.

B) increases risk to the stockholders.

C) is a cheaper form of capital than the issuance of common stock.

D) all of the above.

A(n)________ is used to outline the issuing company's contractual obligations to bondholders.

A) mortgage

B) debenture

C) bond rating

D) indenture

Bonds with ratings lower than Standard & Poor's BBB or Moody's Baa are classified as

A) in default.

B) investment grade.

C) not investment grade.

D) medium quality.

Which of the following features allows a borrower to redeem or repurchase a bond issue before its maturity date?

A) The call provision

B) Convertibility

C) Floating rate

D) The priority of claims

The par value of a corporate bond indicates the level of interest payments that will be paid to investors.

Answer:  FALSE

Any unsecured long-term debt instrument is a debenture.

Answer:  TRUE

A conversion feature confers the option of redeeming a bond for the company's stock rather than cash.

Answer:  TRUE

The debenture is the legal agreement between the firm issuing a bond and the bond trustee who represents the bondholders.

Answer:  FALSE

The current yield is the average rate of interest a bond will from the time of purchase until it matures.

Answer:  FALSE

If the issuing company becomes insolvent, the claims of the bondholders are honored before those of preferred stockholders.

Answer:  TRUE

Advantages of privately placing debt include all of the following EXCEPT

Advantages of privately placing debt include all of the following EXCEPT

A) speed.

B) reduced placement costs.

C) restrictive covenants.

D) flexibility.

The par value of a bond

A) never equals its market value.

B) is determined by the investor.

C) generally is $1,000.

D) is never returned to the bondholder.

The interest on corporate bonds is typically paid

A) semiannually.

B) annually.

C) quarterly.

D) monthly.

On any given day, a bond can be issued at

A) a discount.

B) a premium.

C) par.

D) all of the above.

Advantages to borrowing in the private market include

A) less restrictive covenants.

B) reduced initial costs.

C) lower interest costs.

D) avoiding future SEC registration.

Corporate debt can be privately placed with

A) union pension funds.

B) life insurance companies.

C) state pension funds.

D) all of the above

Which of the following is generally NOT a characteristic of a bond?

A) Voting rights

B) Par value

C) Claims on assets and income

D) Indenture

Asset A has a required return of 18% and a beta of 1.4. The expected market return is 14%

Asset A has a required return of 18% and a beta of 1.4. The expected market return is 14%. What is the risk-free rate? Plot the security market line.

Answer:  

K = Krf + (Km - Krf)b

18% = X + (14% - X)1.4

18% - X =19.6% - 1.4X

.4X = 1.6%

X = 4% = Risk - free Rate = Krf

The return for the market during the next period is expected to be 11.5%; the risk-free rate is 2.5%. Calculate the required rate of return for a stock with a beta of 1.5.

Answer: 

K = 2.5% + 1.5(11.5% - 2.5%) = 16%

Security A has an expected rate of return of 22% and a beta of 2.5. Security B has a beta of 1.20. If the Treasury bill rate is 2.0%, what is the expected rate of return for security B?

Answer: 

RA = RF + BA(Rm - Rf)

.22 = .02 + 2.5 (Rm - .02)

.20 = 2.5 (Rm - .02) = 2.5 Rm - .05

.25 = 2.5 Rm 

.10 = Rm 

RB = Rf + BB(Rm - Rf)

RB = .02 + 1.20(.10 - .02)

RB = .116 or 11.6%

AA & Co. has a beta of .656. If the expected market return is 13.2% and the risk-free rate is 5.7%, what is the appropriate required return of AA & Co. using the CAPM model?

Answer:  Required Rate of Return = Risk-Free Rate + (Market Return - Risk-Free Rate) × Beta = 5.7% + (13.2% - 5.7%) × 0.656 = 10.62%

You are thinking about purchasing 1,000 shares of stock in the following firms:

You are thinking about purchasing 1,000 shares of stock in the following firms:

                                               

                                 Number of Shares             Firm's Beta

        Firm A                          100                                  0.75

        Firm B                          200                                  1.47

        Firm C                          200                                  0.82

        Firm D                          600                                  1.60

If you purchase the number of shares specified, then the beta of your portfolio will be:

A) 1.16.

B) 1.35.

C) 1.00.

D) Cannot be determined without knowing the stock prices.

Use the following information to answer the following question(s).

                                                                Beta

        Market                                           1

        Firm A                                           1.25

        Firm B                                           0.6

Market Return            10%               Risk Free Rate     2%

The market risk premium is

A) 2%.

B) 4%.

C) 6%.

D) 8%.

Firm A's risk premium is

A) 4%.

B) 6%.

C) 8%.

D) 10%.

Firm B's risk premium is

A) 2.66%.

B) 4.8%.

C) 6.3%.

D) 8.1%.

The required rate of return for Firm A is

A) 8%.

B) 12%.

C) 16%.

D) Cannot be determined with information given.

U. S. Treasury bills can be used to approximate the risk-free rate.

Answer:  TRUE

Long-term bonds issued by large, established corporations are commonly used to estimate the risk-free rate.

Answer:  FALSE

The market beta changes frequently with economic conditions.

Answer:  FALSE

The S&P 500 Index is commonly used to estimate the market rate of return.

Answer:  TRUE

The security market line (SML) intercepts the Y axis at the risk-free rate.

Answer:  FALSE

The security market line can drawn by connecting the risk-free rate and the expected return on the market portfolio.

Answer:  TRUE

If investors expected inflation to increase in the future, the SML would shift up, but the slope would remain the same.

Answer:  TRUE

If investors became more risk averse The SML would shift downward and the slope of the SML would fall.

Answer:  FALSE

A security with a beta of zero has a required rate of return equal to the overall market rate of return.

Answer:  FALSE

The rate on six-month T-bills is currently 5%. Andvark Company stock has a beta of 1.69 and a required rate of return of 15.4%

The rate on six-month T-bills is currently 5%. Andvark Company stock has a beta of 1.69 and a required rate of return of 15.4%. According to CAPM, determine the return on the market portfolio.

A) 11.15%

B) 6.15%

C) 17.07%

D) 14.11%

You are going to invest all of your funds in one of three projects with the following distribution of possible returns:

Project 1                                                        Project 2

Standard Deviation 12%                         Standard Deviation 19.5%

Probability                 Return                    Probability                Return

50% Chance              20%                         30% Chance              30%

50% Chance              -4%                          40% Chance              10%

                                                                        30% Chance              -20%

Project 3

Standard Deviation 12%

Probability                 Return

10% Chance              30%

40% Chance              15%

40% Chance              10%

10% Chance              -21%

If you are a risk-averse investor, which one should you choose?

A) Project 1

B) Project 2

C) Project 3

The expected return on the market portfolio is currently 11%. Battmobile Corporation stockholders require a rate of return of 23.0%, and the stock has a beta of 2.5. According to CAPM, determine the risk-free rate.

A) 17.5%

B) 2.75%

C) 3.0%

D) 9.2%

Hefty stock has a beta of 1.2. If the risk-free rate is 7% and the market risk premium is 6.5%, what is the required rate of return on Hefty?

A) 14.8%

B) 14.4%

C) 12.4%

D) 13.5%

The market risk premium is measured by

A) beta.

B) market return less risk-free rate.

C) T-bill rate.

D) standard deviation.

Marjen stock has a required return of 20%. The expected market return is 15%, and the beta of Marjen's stock is 1.5. Calculate the risk-free rate.

A) 4%

B) 5%

C) 6%

D) 7%

Tanzlin Manufacturing's common stock has a beta of 1.5. If the expected risk-free return is 2%

Tanzlin Manufacturing's common stock has a beta of 1.5. If the expected risk-free return is 2% and the expected return on the market is 14%, what is the expected return on the stock?

A) 13.5%

B) 21.0%

C) 16.8%

D) 20.0%

Given the capital asset pricing model, a security with a beta of 1.5 should return ________, if the risk-free rate is 3% and the market return is 11%.

A) 16.5%

B) 14.0%

C) 14.5%

D) 15.0%

The security market line (SML) relates risk to return, for a given set of market conditions. If expected inflation increases, which of the following would most likely occur?

A) The market risk premium would increase.

B) Beta would increase.

C) The slope of the SML would increase.

D) The SML line would shift up.

The security market line (SML) relates risk to return, for a given set of market conditions. If risk aversion increases, which of the following would most likely occur?

A) The market risk premium would increase.

B) Beta would increase.

C) The slope of the SML would increase.

D) The SML line would shift up.

The Elvis Alive Corporation, makers of Elvis memorabilia, has a beta of 2.35. The return on the market portfolio is 12%, and the risk-free rate is 2.5%. According to CAPM, what is the risk premium on a stock with a beta of 1.0?

A) 12.00%

B) 22.33%

C) 9.5%

D) 14.5%

Bell Weather, Inc. has a beta of 1.25. The return on the market portfolio is 12.5%, and the risk-free rate is 5%. According to CAPM, what is the required return on this stock?

A) 20.62%

B) 9.37%

C) 14.37%

D) 15.62%

Provide an intuitive discussion of beta and its importance for measuring risk.

Briefly discuss why there is no reason to believe that the market will reward investors with additional returns for assuming unsystematic risk.

Answer:  Through diversification, risk can be lowered without sacrificing returns. The market rewards investors for the systematic risk that cannot be eliminated through proper asset allocation in a diversified portfolio.

Provide an intuitive discussion of beta and its importance for measuring risk.

Answer:  Beta is an important measure that indicates the systematic risk of a given investment. Since systematic risk cannot be diversified away, investors are compensated for taking this risk. Beta compares the market risk of a particular investment with the market risk of the market, and the risk premium necessary for a stock is directly proportional to the risk premium for the market as a whole. When the risk premium is added to the risk free rate, this results in the required return for the stock.

The risk-return relationship for each financial asset is shown on

A) the capital market line.

B) the New York Stock Exchange market line.

C) the security market line.

D) none of the above.

Siebling Manufacturing Company's common stock has a beta of .8. If the expected risk-free return is 2% and the market offers a premium of 8% over the risk-free rate, what is the expected return on Siebling's common stock?

A) 7.8%

B) 13.4%

C) 14.4%

D) 8.4%

Huit Industries' common stock has an expected return of 11.4% and a beta of 1.2. If the expected risk-free return is 3%, what is the expected return for the market (round your answer to the nearest .1%)?

A) 7.7%

B) 9.6%

C) 10.0%

D) 11.4%