TUTORIAL – SESSION 01CHAPTER 011.Discuss the agency problem.2.Discuss the similarities and differences between real and financial assets.3.Discuss the following ongoing trends as they relate to the field of investments:globalization, financial engineering, securitization, and computer networks.CHAPTER 02Use the following to answer questions 1 to 3:Consider the following three stocks:1. The price-weighted index constructed with the three stocks isA) 30B) 40C) 50D) 60E) 70Answer: B Difficulty: EasyRationale: ($40 + $70 + $10)/3 = $40.2. The value-weighted index constructed with the three stocks using a divisor of 100 isA) 1.2B) 1200C) 490D) 4900E) 49Answer: C Difficulty: ModerateRationale: The sum of the value of the three stocks divided by 100 is 490: [($40 x 200) + ($70 x 500) + ($10 x 600)] /100 = 4903. Assume at these prices the value-weighted index constructed with the three stocks is490. What would the index be if stock B is split 2 for 1 and stock C 4 for 1?A) 265B) 430C) 355D) 490E) 1000Answer: D Difficulty: ModerateRationale: Value-weighted indexes are not affected by stock splits.4. An investor purchases one municipal and one corporate bond that pay rates of returnof 8% and 10%, respectively. If the investor is in the 20% marginal tax bracket, his or her after tax rates of return on the municipal and corporate bonds would be ________ and ______, respectively.A) 8% and 10%B) 8% and 8%C) 6.4% and 8%D) 6.4% and 10%E) 10% and 10%Answer: B Difficulty: ModerateRationale: rc = 0.10(1 - 0.20) = 0.08, or 8%; rm = 0.08(1 - 0) = 8%.5. A 5.5% 20-year municipal bond is currently priced to yield 7.2%. For a taxpayer inthe 33% marginal tax bracket, this bond would offer an equivalent taxable yield of:A) 8.20%.B) 10.75%.C) 11.40%.D) 4.82%.E) none of the above.Answer: B Difficulty: ModerateRationale: 0.072 = rm (1-t); 0.072 = rm / (0.67); rm = 0.1075 = 10.75%6. In order for you to be indifferent between the after tax returns on a corporate bondpaying 8.5% and a tax-exempt municipal bond paying 6.12%, what would your tax bracket need to be?A) 33%B) 72%C) 15%D) 28%E) Cannot tell from the information given.0612 = .085(1-t); (1-t) = 0.72; t = .287. Suppose an investor is considering a corporate bond with a 7.17% before-tax yield anda municipal bond with a 5.93% before-tax yield. At what marginal tax rate would theinvestor be indifferent between investing in the corporate and investing in the muni?A) 15.4%B) 23.7%C) 39.5%D) 17.3%E) 12.4%tm = 1 - (5.93%/7.17%) = 17.29%Use the following to answer questions 8 to 9:8. Based on the information given, for a price-weighted index of the three stockscalculate:A) the rate of return for the first period (t=0 to t=1).B) the value of the divisor in the second period (t=2). Assume that Stock A had a 2-1split during this period.C) the rate of return for the second period (t=1 to t=2).A. The price-weighted index at time 0 is (70 + 85 + 105)/3 = 86.67. The price-weighted indexat time 1 is (72 + 81 + 98)/3 = 83.67. The return on the index is 83.67/86.67 - 1 = -3.46%.B. The divisor must change to reflect the stock split. Because nothing else fundamentallychanged, the value of the index should remain 83.67. So the new divisor is (36 +81 + 98)/83.67 = 2.57. The index value is (36 + 81 + 98)/2.57 = 83.67.C. The rate of return for the second period is 83.67/83.67 - 1 = 0.00%9. Based on the information given for the three stocks, calculate the first-period rates ofreturn (from t=0 to t=1) onA) a market-value-weighted index.B) an equally-weighted index.C) a geometric index.A. The total market value at time 0 is $70 * 200 + $85 * 500 + $105 * 300 = $88,000. Thetotal market value at time 1 is $72 * 200 + $81 * 500 + $98 * 300 = $84,300. Thereturn is $84,300/$88,000 - 1 = -4.20%.B. The return on Stock A for the first period is $72/$70 - 1 = 2.86%. The return on Stock Bfor the first period is $81/$85 - 1 = -4.71%. The return on Stock C for the firstperiod is $98/$105 - 1 = -6.67%. The return on an equally weighted index of thethree stocks is (2.86% - 4.71% - 6.67%)/3 = -2.84%C. The geometric average return is [(1+.0286)(1-.0471)(1-.0667)](1/3)-1 =[(1.0286)(0.9529)(0.9333)]0.3333 -1 = -2.92%10.Discuss the advantages and disadvantages of common stock ownership, relative toother investment alternatives.CHAPTER 031. Assume you purchased 200 shares of XYZ common stock on margin at $70 per sharefrom your broker. If the initial margin is 55%, how much did you borrow from the broker?A) $6,000B) $4,000C) $7,700D) $7,000E) $6,300Answer: E Difficulty: ModerateRationale: 200 shares * $70/share * (1-0.55) = $14,000 * (0.45) = $6,300.2. You sold short 200 shares of common stock at $60 per share. The initial margin is60%. Your initial investment wasA) $4,800.B) $12,000.C) $5,600.D) $7,200.E) none of the above.Answer: D Difficulty: ModerateRationale: 200 shares * $60/share * 0.60 = $12,000 * 0.60 = $7,2003. You purchased 100 shares of ABC common stock on margin at $70 per share.Assume the initial margin is 50% and the maintenance margin is 30%. Below what stock price level would you get a margin call? Assume the stock pays no dividend;ignore interest on margin.A) $21B) $50C) $49D) $80E) none of the aboveAnswer: B Difficulty: DifficultRationale: 100 shares * $70 * .5 = $7,000 * 0.5 = $3,500 (loan amount); 0.30 = (100P - $3,500)/100P; 30P = 100P - $3,500; -70P = -$3,500; P = $50.4. You purchased 100 shares of common stock on margin at $45 per share. Assume theinitial margin is 50% and the stock pays no dividend. What would the maintenance margin be if a margin call is made at a stock price of $30? Ignore interest on margin.A) 0.33B) 0.55C) 0.43D) 0.23E) 0.25Answer: E Difficulty: DifficultRationale: 100 shares * $45/share * 0.5 = $4,500 * 0.5 = $2,250 (loan amount); X = [100($30) - $2,250]/100($30); X = 0.25.5. You purchased 300 shares of common stock on margin for $60 per share. The initialmargin is 60% and the stock pays no dividend. What would your rate of return be if you sell the stock at $45 per share? Ignore interest on margin.A) 25%B) -33%C) 44%D) -42%E) –54%Answer: D Difficulty: DifficultRationale: 300($60)(0.60) = $10,800 investment; 300($60) = $18,000 *(0.40) = $7,200 loan;Proceeds after selling stock and repaying loan: $13,500 - $7,200 = $6,300; Return= ($6,300 - $10,800)/$10,800 = - 41.67%.6. Assume you sell short 100 shares of common stock at $45 per share, with initialmargin at 50%. What would be your rate of return if you repurchase the stock at$40/share? The stock paid no dividends during the period, and you did not remove any money from the account before making the offsetting transaction.A) 20%B) 25%C) 22%D) 77%E) none of the aboveAnswer: C Difficulty: ModerateRationale: Profit on stock = ($45 - $40) * 100 = $500, $500/$2,250 (initial investment) =22.22%7. You want to purchase XYZ stock at $60 from your broker using as little of your ownmoney as possible. If initial margin is 50% and you have $3000 to invest, how many shares can you buy?A) 100 sharesB) 200 sharesC) 50 sharesD) 500 sharesE) 25 sharesAnswer: A Difficulty: ModerateRationale: .5 = [(Q * $60)-$3,000] / (Q * $60); $30Q = $60Q-$3,000; $30Q = $3,000; Q=100.8. You buy 300 shares of Qualitycorp for $30 per share and deposit initial margin of50%. The next day Qualitycorp's price drops to $25 per share. What is your actual margin?A) 50%B) 40%C) 33%D) 60%E) 25%Answer: B Difficulty: ModerateRationale: AM = [300 ($25) - .5 (300) ($30) ] / [300 ($25)] = .409. You sold short 100 shares of common stock at $45 per share. The initial margin is50%. Your initial investment wasA) $4,800.B) $12,000.C) $2,250.D) $7,200.E) none of the above.Answer: C Difficulty: ModerateRationale: 100 shares * $45/share * 0.50 = $4,500 * 0.50 = $2,25010. List three factors that are listing requirements for the New York Stock Exchange.Why does the exchange have such requirements?CHAPTER 041. Multiple Mutual Funds had year-end assets of $457,000,000 and liabilities of$17,000,000. There were 24,300,000 shares in the fund at year-end. What wasMultiple Mutual's Net Asset Value?A) $18.11B) $18.81C) $69.96D) $7.00E) $181.07Answer: A Difficulty: ModerateRationale: (457,000,000 - 17,000,000) / 24,300,000 = $18.112. Diversified Portfolios had year-end assets of $279,000,000 and liabilities of$43,000,000. If Diversified's NAV was $42.13, how many shares must have beenheld in the fund?A) 43,000,000B) 6,488,372C) 5,601,709D) 1,182,203E) None of the above.Answer: C Difficulty: ModerateRationale: ($279,000,000 - 43,000,000) / $42.13 = 5,601,708.996.3. Pinnacle Fund had year-end assets of $825,000,000 and liabilities of $25,000,000. IfPinnacle's NAV was $32.18, how many shares must have been held in the fund?A) 21,619,346,92B) 22,930,546.28C) 24,860,161.59D) 25,693,645.25E) None of the above.Answer: C Difficulty: ModerateRationale: ($825,000,000 - 25,000,000) / $32.18 = 24,860,161.59.4. The Profitability Fund had NAV per share of $17.50 on January 1, 2005. OnDecember 31 of the same year the fund's NAV was $19.47. Income distributions were $0.75 and the fund had capital gain distributions of $1.00. Without considering taxes and transactions costs, what rate of return did an investor receive on the Profitabilityfund last year?A) 11.26%B) 15.54%C) 16.97%D) 21.26%E) 9.83%Answer: D Difficulty: ModerateRationale: R = ($19.47 - 17.50 + .75 + 1.00) / $17.50 = 21.26%5. Patty O'Furniture purchased 100 shares of Green Isle mutual fund at a net asset valueof $42 per share. During the year Patty received dividend income distributions of$2.00 per share and capital gains distributions of $4.30 per share. At the end of theyear the shares had a net asset value of $40 per share. What was Patty's rate of return on this investment?A) 5.43%B) 10.24%C) 7.19%D) 12.44%E) 9.18%〔40-42+2+4.3〕/42=10.24%6. A mutual fund had year-end assets of $560,000,000 and liabilities of $26,000,000.There were 23,850,000 shares in the fund at year end. What was the mutual fund'sNet Asset Value?A) $22.87B) $22.39C) $22.24D) $17.61E) $19.25Answer: B Difficulty: ModerateRationale: (560,000,000 - 26,000,000) / 23,850,000 = $22.3897. A mutual fund had year-end assets of $465,000,000 and liabilities of $37,000,000. Ifthe fund NAV was $56.12, how many shares must have been held in the fund?A) 4,300,000B) 6,488,372C) 8,601,709D) 7,626,515E) None of the above.Answer: D Difficulty: ModerateRationale: ($465,000,000 37,000,000) / $56.12 = 7,626,5158. A mutual fund had NAV per share of $26.25 on January 1, 2005. On December 31 ofthe same year the fund's rate of return for the year was 16.4%. Income distributionswere $1.27 and the fund had capital gain distributions of $1.85. Without considering taxes and transactions costs, what ending NAV would you calculate?A) $27.44B) $33.88C) $24.69D) $42.03E) $16.62Answer: A Difficulty: ModerateRationale: .164 = (P - $26.25 + 1.27 + 1.85) / $26.25; P = $27.4359. A mutual funds had average daily assets of $2.0 billion on 2005. The fund sold $500million worth of stock and purchased $600 million worth of stock during the year.The funds turnover ratio is ___.A) 27.5%B) 12%C) 15%D) 25%E) 20%Answer: D Difficulty: ModerateRationale: 500,000,000 / 2,000,000,000 = 25%10. You purchased shares of a mutual fund at a price of $20 per share at the beginning ofthe year and paid a front-end load of 5.75%. If the securities in which the findinvested increased in value by 11% during the year, and the funds expense ratio was1.25%, your return if you sold the fund at the end of the year would be ____________.A) 4.33B) 3.44C) 2.45D) 6.87E) None of the above[20*(1-5.75%)*(1+11%-1.25%)-20]/20=0.034311. List and describe the more important types of mutual funds according to theirinvestment policy and use.CHAPTER 051. Over the past year you earned a nominal rate of interest of 10 percent on your money.The inflation rate was 5 percent over the same period. The exact actual growth rate of your purchasing power wasA) 15.5%.B) 10.0%.C) 5.0%.D) 4.8%.E) 15.0%Answer: D Difficulty: ModerateRationale: r = (1+R) / (1+I) - 1; 1.10% / 1.5% - 1 = 4.8%.2. You purchased a share of stock for $20. One year later you received $1 as dividendand sold the share for $29. What was your holding period return?A) 45%B) 50%C) 5%D) 40%E) none of the aboveAnswer: B Difficulty: ModerateRationale: ($1 + $29 - $20)/$20 = 0.5000, or 50%.Use the following to answer questions 3-5:You have been given this probability distribution for the holding period return for KMP stock:3. What is the expected holding period return for KMP stock?A) 10.40%B) 9.32%C) 11.63%D) 11.54%E) 10.88%Answer: A Difficulty: ModerateRationale: HPR = .30 (18%) + .50 (12%) + .20 (-5%) = 10.4%4. What is the expected standard deviation for KMP stock?A) 6.91%B) 8.13%C) 7.79%D) 7.25%E) 8.85%Answer: B Difficulty: DifficultRationale: s = [.30 (18 - 10.4)2 + .50 (12 - 10.4)2 + .20 (-5 - 10.4)2]1/2 = 8.13%5. What is the expected variance for KMP stock?A) 66.04%B) 69.96%C) 77.04%D) 63.72%E) 78.45%A Difficulty: DifficultRationale: s = [.30 (18 - 10.4)2 + .50 (12 - 10.4)2 + .20 (5 - 10.4)2] = 66.04%6. You purchase a share of Boeing stock for $90. One year later, after receiving adividend of $3, you sell the stock for $92. What was your holding period return?A) 4.44%B) 2.22%C) 3.33%D) 5.56%E) none of the aboveAnswer: D Difficulty: ModerateRationale: HPR = (92 - 90 + 3) / 90 = 5.56%7. An investor purchased a bond 45 days ago for $985. He received $15 in interest andsold the bond for $980. What is the holding period return on his investment?A) 1.52%B) 0.50%C) 1.02%D) 0.01%E) None of the aboveAnswer: C Difficulty: EasyRationale: HPR = ($15+980-985)/$985 = .010152284 = approximately 1.02%.8. Over the past year you earned a nominal rate of interest of 8 percent on your money.The inflation rate was 3.5 percent over the same period. The exact actual growth rate of your purchasing power wasA) 15.55%.B) 4.35%.C) 5.02%.D) 4.81%.E) 15.04%Answer: B Difficulty: ModerateRationale: r = (1+R) / (1+I) - 1 ; 1.08 / 1.035 - 1 = 4.35%.9. Over the past year you earned a nominal rate of interest of 14 percent on your money.The inflation rate was 2 percent over the same period. The exact actual growth rate of your purchasing power wasA) 11.76%.B) 16.00%.C) 15.02%.D) 14.32%.E) none of the above.10. An investment provides a 2% return semi-annually, its effective annual rate isA) 2%.B) 4%.C) 4.02%D) 4.04%E) none of the above(1.02)2 -1 = 4.04%11. Discuss the relationships between interest rates (both real and nominal), expected inflationrates, and tax rates on investment returns.12. Discuss why common stocks must earn a risk premium.CHAPTER 071. Market risk is also referred to asA) systematic risk, diversifiable risk.B) systematic risk, nondiversifiable risk.C) unique risk, nondiversifiable risk.D) unique risk, diversifiable risk.E) none of the above.Answer: B Difficulty: EasyRationale: Market, systematic, and nondiversifiable risk are synonyms referring to the risk that cannot be eliminated from the portfolio. Diversifiable, unique, nonsystematic,and firm-specific risks are synonyms referring to the risk that can be eliminatedfrom the portfolio by diversification.2. The variance of a portfolio of risky securitiesA) is a weighted sum of the securities' variances.B) is the sum of the securities' variances.C) is the weighted sum of the securities' variances and covariances.D) is the sum of the securities' covariances.E) none of the above.Answer: C Difficulty: ModerateRationale: The variance of a portfolio of risky securities is a weighted sum taking into accou nt both the variance of the individual securities and the covariances between securities.3. Other things equal, diversification is most effective whenA) securities' returns are uncorrelated.B) securities' returns are positively correlated.C) securities' returns are high.D) securities' returns are negatively correlated.E) B and C.Answer: D Difficulty: ModerateRationale: Negative correlation among securities results in the greatest reduction of portfolio risk, which is the goal of diversification.4. The Capital Allocation Line provided by a risk-free security and N risky securities isA) the line that connects the risk-free rate and the global minimum-variance portfolioof the risky securities.B) the line that connects the risk-free rate and the portfolio of the risky securities thathas the highest expected return on the efficient frontier.C) the line tangent to the efficient frontier of risky securities drawn from the risk-freerate.D) the horizontal line drawn from the risk-free rate.E) none of the above.Answer: C Difficulty: ModerateRationale: The Capital Allocation Line represents the most efficient combinations of the risk-free asset and risky securities. Only C meets that definition.5. Which of the following statements is (are) true regarding the variance of a portfolio oftwo risky securities?A) The higher the coefficient of correlation between securities, the greater thereduction in the portfolio variance.B) There is a linear relationship between the securities' coefficient of correlation andthe portfolio variance.C) The degree to which the portfolio variance is reduced depends on the degree ofcorrelation between securities.D) A and B.E) A and C.Answer: C Difficulty: ModerateRationale: The lower the correlation between the returns of the securities, the more portfolio r isk is reduced.Use the following to answer questions 6-11:Consider the following probability distribution for stocks A and B:6. The expected rates of return of stocks A and B are _____ and _____ , respectively.A) 13.2%; 9%B) 14%; 10%C) 13.2%; 7.7%D) 7.7%; 13.2%E) none of the aboveAnswer: C Difficulty: EasyRationale: E(RA) = 0.1(10%) + 0.2(13%) + 0.2(12%) + 0.3(14%) + 0.2(15%) = 13.2%;E(RB) = 0.1(8%) + 0.2(7%) + 0.2(6%) + 0.3(9%) + 0.2(8%) = 7.7%.7. The standard deviations of stocks A and B are _____ and _____, respectively.A) 1.5%; 1.9%B) 2.5%; 1.1%C) 3.2%; 2.0%D) 1.5%; 1.1%E) none of the aboveAnswer: D Difficulty: ModerateRationale: sA = [0.1(10% - 13.2%)2 + 0.2(13% - 13.2%)2 + 0.2(12% - 13.2%)2 +0.3(14% - 13.2%)2 + 0.2(15% - 13.2%)2]1/2 = 1.5%; sB = [0.1(8% - 7.7%)2 + 0.2(7% -7.7%)2 + 0.2(6% - 7.7%)2 + 0.3(9% - 7.7%)2 + 0.2(8% - 7.7%)2]1/2 = 1.1%.8. The coefficient of correlation between A and B isA) 0.47.B) 0.60.C) 0.58D) 1.20.E) none of the above.Answer: A Difficulty: DifficultRationale: covA,B = 0.1(10% - 13.2%)(8% - 7.7%) + 0.2(13% - 13.2%)(7% - 7.7%) +0.2(12% - 13.2%)(6% - 7.7%) + 0.3(14% - 13.2%)(9% - 7.7%) + 0.2(15% - 13.2%)(8% -7.7%) = 0.76; rA,B = 0.76/[(1.1)(1.5)] = 0.47.9. If you invest 40% of your money in A and 60% in B, what would be your portfolio'sexpected rate of return and standard deviation?A) 9.9%; 3%B) 9.9%; 1.1%C) 11%; 1.1%D) 11%; 3%E) none of the aboveAnswer: B Difficulty: DifficultRationale: E(RP) = 0.4(13.2%) + 0.6(7.7%) = 9.9%; sP = [(0.4)2(1.5)2 + (0.6)2(1.1)2 +2(0.4)(0.6)(1.5)(1.1)(0.46)]1/2 = 1.1%.10. Let G be the global minimum variance portfolio. The weights of A and B in G are__________ and __________, respectively.A) 0.40; 0.60B) 0.66; 0.34C) 0.34; 0.66D) 0.76; 0.24E) 0.24; 0.76Answer: E Difficulty: DifficultRationale: wA = [(1.1)2 - (1.5)(1.1)(0.46)]/[(1.5)2 + (1.1)2 - (2)(1.5)(1.1)(0.46) = 0.23; wB = 1-0.23 = 0.77.Note that the above solution assumes the solutions obtained in question 13 and 14.11. The expected rate of return and standard deviation of the global minimum varianceportfolio, G, are __________ and __________, respectively.A) 10.07%; 1.05%B) 9.04%; 2.03%C) 10.07%; 3.01%D) 9.04%; 1.05%E) none of the aboveAnswer: D Difficulty: ModerateRationale: E(RG) = 0.23(13.2%) + 0.77(7.7%) = 8.97% . 9%; sG = [(0.23)2(1.5)2 + (0.77)2(1.1)2 + (2)(0.23)(0.77)(1.5)(1.1)(0.46)]1/2 = 1.05%.。
