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FIN 331 Practice Questions for Midterm II 1. Which of the following would be most likely to lead to a higher level of interest rates in the economy? a. The Federal Reserve decides to try to stimulate the economy. b. The level of inflation begins to decline. c. Corporations step up their expansion plans and thus increase their demand for capital. d. Households start saving a larger percentage of their income. e. The economy moves from a boom to a recession. 2. Bae Inc. is considering an investment that has an expected return of 45% and a standard deviation of 10%. What is the investment's coefficient of variation? Do not round your intermediate calculations. a. 0.26 b. 0.20 c. 0.22 d. 0.27 e. 0.23 3. Which of the following statements is CORRECT? a. If a bond's yield to maturity exceeds its coupon rate, the bond will sell at a premium over par. b. A zero coupon bond's current yield is equal to its yield to maturity. c. All else equal, if a bond's yield to maturity increases, its price will fall. d. If a bond's yield to maturity exceeds its coupon rate, the bond will sell at par. e. All else equal, if a bond's yield to maturity increases, its current yield will fall. 4. Morin Company's bonds mature in 8 years, have a par value of $1,000, and make an annual coupon interest payment of $65. The market requires an interest rate of 6.1% on these bonds. What is the bond's price? a. $1,096.47 b. $1,116.97 c. $1,147.71 d. $1,024.74 e. $1,280.93 5. Ryngaert Inc. recently issued noncallable bonds that mature in 15 years. They have a par value of $1,000 and an annual coupon of 5.7%. If the current market interest rate is 7.0%, at what price should the bonds sell? a. $881.60 b. $775.81 c. $1,013.84 d. $1,040.28 e. $802.25 6. Adams Enterprises' noncallable bonds currently sell for $910. They have a 15-year maturity, an annual coupon of $85, and a par value of $1,000. What is their yield to maturity? a. 7.34% b. 8.60% c. 9.95% d. 11.21% e. 9.66%7. Sadik Inc.'s bonds currently sell for $1,300 and have a par value of $1,000. They pay a $105 annual coupon and have a 15-year maturity, but they can be called in 5 years at $1,100. What is their yield to call (YTC)? a. 4.30% b. 5.31% c. 4.94% d. 5.10% e. 6.00% 8. Assume that you are considering the purchase of a 20-year, noncallable bond with an annual coupon rate of 9.5%. The bond has a face value of $1,000, and it makes semiannual interest payments. If you require an 10.7% nominal yield to maturity on this investment, what is the maximum price you should be willing to pay for the bond? a. $1,000.99 b. $901.80 c. $910.81 d. $874.74 e. $721.44 9. Taggart Inc.'s stock has a 50% chance of producing a 36% return, a 30% chance of producing a 10% return, and a 20% chance of producing a -28% return. What is the firm's expected rate of return? Do not round your intermediate calculations. a. 15.86% b. 15.71% c. 12.01% d. 15.40% e. 14.01% 10. Suppose the real risk-free rate is 3.00%, the average expected future inflation rate is 5.90%, and a maturity risk premium of 0.10% per year to maturity applies, i.e., MRP = 0.10%(t), where t is the number of years to maturity. What rate of return would you expect on a 1-year Treasury security, assuming the pure expectations theory is NOT valid? Disregard cross-product terms, i.e., if averaging is required, use the arithmetic average. a. 9.27% b. 8.91% c. 9.00% d. 10.35% e. 7.29% 11. Bill Dukes has $100,000 invested in a 2-stock portfolio. $62,500 is invested in Stock X and the remainder is invested in Stock Y. X's beta is 1.50 and Y's beta is 0.70. What is the portfolio's beta? Do not round your intermediate calculations. Round the final answer to 2 decimal places. a. 1.14 b. 1.44 c. 1.56 d. 1.20 e. 0.9012. Cooley Company's stock has a beta of 1.28, the risk-free rate is 2.25%, and the market risk premium is 5.50%. What is the firm's required rate of return? Do not round your intermediate calculations. a. 8.55% b. 9.94% c. 9.29% d. 10.96% e. 11.52% 13. Stock A's stock has a beta of 1.30, and its required return is 13.75%. Stock B's beta is 0.80. If the risk-free rate is 2.75%, what is the required rate of return on B's stock? (Hint: First find the market risk premium.) Do not round your intermediate calculations. a. 9.33% b. 8.57% c. 10.66% d. 9.52% e. 11.33% 14. Which is the best measure of risk for a single asset held in isolation, and which is the best measure for an asset held in a diversified portfolio? a. Standard deviation; correlation coefficient. b. Beta; variance. c. Coefficient of variation; beta. d. Variance; correlation coefficient. e. Beta; beta. 15. Which of the following statements is CORRECT? a. If you add enough randomly selected stocks to a portfolio, you can completely eliminate all of the market risk from the portfolio. b. A large portfolio of stocks whose betas are greater than 1.0 will have less market risk than a single stock with a beta = 0.8. c. A large portfolio of randomly selected stocks will always have a standard deviation of returns that is less than the standard deviation of a portfolio with fewer stocks, regardless of how the stocks in the smaller portfolio are selected. d. A large portfolio of randomly selected stocks will have a standard deviation of returns that is greater than the standard deviation of a 1-stock portfolio if that one stock has a beta less than 1.0. e. Diversifiable risk can be reduced by forming a large portfolio, but normally even highly-diversified portfolios are subject to market (or systematic) risk.ANSWER KEY Midterm 2 Practice 1 c 2 c 3 c 4 d 5 a 6 e 7 b 8 b 9 d 10 c 11 d 12 c 13 d 14 c 15

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