Like many formulas, the expected rate of return formula requires a few "givens" in order to solve for the answer. Assume a risk free rate of 4.75%. It is based on the idea of systematic risk (otherwise known as or non-diversifiable risk) and that investors need to be compensated for it in the for… In theory, this is a combination of securities that places the portfolio on the efficient frontier and on a line tangent from the risk-free rate. (Assume semi-annual interest payments and $1,000 par value.). Using the CAPM, what is ABC’s expected return? Expected return is simply a measure of probabilities intended to show the likelihood that a given investment will generate a positive return, and what the likely return will be. there is typically not much trading activity related to the security, the rate that a security would pay if no inflation were expected over its holding period, Assume the interest rate demanded on a bond issued by Ford is 7%. A two-year Treasury security currently earns 5.13 percent. Normally, bond investors account for call risk by figuring the yield-to-call, which is the percentage return the bond will pay up to the call date. The past four monthly returns for K and Company are 3.40 percent, 2.30 percent, 0.80 percent, and -0.70 percent. b. All of the following are necessary conditions for an efficient market EXCEPT: If Zeus Energy Bonds are upgraded from BBB- to BBB+, which of the following statements is true? It paid a $0.60 per share dividend last year. Which of the following is the continual increase in the price level of a basket of goods or services? Chapter 2: Bonds, stocks and other securities Try the multiple choice questions below to test your knowledge of this chapter. A firm is expected to pay a dividend of $2.00 next year and $2.14 the following year. Which of these is the interest rate that is actually observed in financial markets? The "givens" in this formula are the probabilities of different outcomes and what those outcomes will return. in an efficient market, investors will sell overvalued stock which will drive its price down, This is typically considered the return on U.S. government bonds and bills and equals the real interest and the expected inflation premium. Which of the following terms means that during periods when interest rates change substantially, bondholders experience distinct gains and losses in their bond investments? Get ready for your Expected Return tests by reviewing key facts, theories, examples, synonyms and definitions with study sets created by students like you. Stock A has a required return of 15%. it shows expected return as a function of β. Special rights given to some employees to buy a specific number of shares of the company stock at a fixed price during a specific period of time are known as. The past four monthly returns for K and Company are -2.60 percent, 1.80 percent, 2.60 percent, and 1.50 percent. If you owned 500 shares of FedEx, what was your percent return? 2. Which of these is the line on a graph of return and risk (standard deviation) from the risk-free rate through the market portfolio? What is the average monthly return? Name the dominated portfolio and the portfolio that dominates it. taught by Chao Jiang at the University of Kansas. It is expected to pay its first dividend of $0.10 per share in three years. It paid a $1.20 per share dividend last year. the liquidity risk premium on the corporation's bond is 0.50 percent. If the risk premium on this bond is equal to 5%, we would conclude that the risk-free rate is equal to. Which of these investors earn returns from receiving dividends and from stock price appreciation? Answer: You should buy the bond since the actual price of the bond is lower than the price with your required rate. A) 13% If a 13 percent discount rate is appropriate for this stock, what is its value? What is the beta of your portfolio? Which of the below is a measure of the sensitivity of a stock or portfolio to market risk? U.S. Stocks – S&P 500: 8.2%International – MSCI EAFE: 4.4%U.S. The security's liquidity risk premium is 0.35 percent and maturity risk premium is 0.95 percent. What was the market risk premium during that year? What would this position on the diagram imply about stock Z? It ended last year at $145.50. This can be expressed in the following formula: expected return (ex-ante) … A firm does not pay a dividend. If you owned 100 shares of FedEx, what was your percent return? All of these statements are valid concerns regarding beta. Using a 13 percent discount rate, compute the value of this stock. Stock A has a required return of 19%. For all securities, the inflation risk premium is 1.95 percent and the real interest rate is 3.65 percent. the maturity risk premium is 0.25 percent on two year securities and increase by 0.10 percent for each additional year … It ended last year at $173.90. If this bond pays its coupon payments semi annually and par value is $1,000 what is the bonds annual coupon rate? Efficient portfolio is a portfolio that is not dominated by any other portfolio. Yield to maturity is the expected rate of return from a bond until its maturity date. JIM corporate bond with yield of 12.25 percent, IB corporate bond with yield of 4.49 percent. The expected risk-free rate of interest is 2.5% and the expected return on the market as a whole is 10%. Afterwards, a more stable rate of 10 percent growth rate can be assumed. The formula is the following. Assume that you observe the following interest rates on the following 20 year bonds: as a bond approaches its maturity we expect the market price of the bond, under which will an investor demand a larger return on a bond, the bond issue is downgraded from a to BBB, which of the following terms means the chance that future interest payments will have to be reinvested at a lower interest rate, which of the following bond makes no interest payments, if a bond's yield to maturity rises above its coupon rate, the bond must be selling for a price lower than its par value, when we say that a bondholder faces interest rate risk we mean that the bondholder faces the possibility of a ________ in market interest ratios and a _____ in the value of the bond as a result, which of the following is a legal contract that outlines the precise terms between the issuer and the bondholder, consider the following three bonds A treasury note quoted at 87:25 and a corporate bond quoted at 102.42 and a municipal bond quoted at 101.45. if the treasury and corporate bonds have a par value of 1,000 and the municipal bond has a par value of 5,000 what is the price of these three bonds, which of the following is not a factor that determines the coupon rate of its company's bonds, if a bonds selling at a premium then ____, its yield should be lower than its coupon rate. A bond with 14 years to maturity is selling for $1070 and has a yield to maturity of 10.06 percent. What is the standard deviation of monthly returns? The larger the standard deviation, the higher the total risk. a) Your portfolio is invested 40 per cent each in A and C, and 20 per cent in B. Hence, the outcome is not guaranteed. If the risk-free rate is 3 percent and the market risk premium is 8 percent, what is the required return for the market? Financial analysts believe the stock will be at their target price of $65.00 in two years. The market has an expected rate of return of 12.6 percent. Which of the following is an electronic stock market without a physical trading floor? A portfolio manager is managing a $10 million portfolio. True A stock has an expected return of 14.5%, the risk-free rate is 4% and the return on the market is 11%. What is the value of their stock when the required rate of return is 15.13 percent? Which of the following will only be executed if the order's price conditions are met? this implies that, A 6 percent coupon bond with 12 years left to maturity is priced to offer a 6.5 percent yield to maturity. You own $1,000 of City Steel stock that has a beta of 1. You believe that in one year, the yield to maturity will be 6.25 percent. Currently, GLE, is trading in the market for $51. Interest rates, inflation and economic growth are economic factors that are examples of __________________. U.S. Bancorp holds a press conference to announce a positive news event that was unexpected to the market. Also assume inflation rate of 3%. The security has no special covenants. The average return and standard deviation of Idol Staff are 10 percent and 15 percent; and of Poker-R-Us are 6 percent and 20 percent. Which of the following is the correct ranking from least risky to most risky? Stock B has a required return of 26%. It paid a $0.80 per share dividend last year at $105.80. If the market return is expected to be 8 percent and the risk free rate is 3 percent, what is the company's required return? A bond issued by the United States government, common stock issued by a small but financially strong firm. The security's liquidity risk premium is .35 percent and maturity risk premium is .95 percent. Which of the following statements is correct? Which of the following statements is correct regarding this information? Which of the following statements is correct regarding diversification? CAPM is calculated according to the following formula: Where:Ra = Expected return on a security Rrf = Risk-free rate Ba = Beta of the security Rm = Expected return of the marketNote: “Risk Premium” = (Rm – Rrf)The CAPM formula is used for calculating the expected returns of an asset. Which of the debt contracts below would be associated with the biggest interest rate risk? What is the standard deviation of monthly returns? the maturity risk premium is 0.25 percent on two year securities and increase by 0.10 percent for each additional year to maturity. During the same time period, Company V earned 1.90 percent and Company M earned -3.60 percent. Discover free flashcards, games, and test prep activities designed to help you learn about Expected Return and other concepts. What is the main reason for calculating averages of past returns on stocks? Year-to-date, Company O had earned a 3.50 percent return. Calculate the bond's default risk premium. Let’s take an example of a portfolio of stocks and bonds where stocks have a 50% weight and bonds have a weight of 50%. Once you have completed the test, … If the default risk premium and liquidity risk premium on a 10 year corporate bond is the same as that on the 20 year corporate bond, what is the current rate on a 10 year corporate bond? The market price of the bond is $910.00. Assume interest payments are paid semi-annually and par value is $1,000. Currently the portfolio is invested in the following manner. Compute the expected return given these three economic states, their likelihoods, and the potential returns: You have a portfolio with a beta of 1.25. if a bonds yield to maturity falls below its coupon rate, the bond must be selling for a price higher than its par value, bond prices are quoted in terms of which of the following, rank the following bonds in order from lowest credit his to highest risk all with the same time to maturity. All of these are investor diversification problems. Assume when plotting stock Z on a security market line diagram the stock would be found below the security market line. This implies that. calculate the price of a zero coupon bond that matures in 10 years if the market interest rate is 6 percent. A 5.75 percent coupon bond with 12 years left to maturity is offered for sale at $978.83. Expected Return for Portfolio = 50% * 15% + 50% * 7% 2. The inflation rate is … Which of these is the portion of total risk that is attributable to overall economic factors? As soon as the announcement is made, the stock price increases $8 per share but then over the next hour the price falls resulting in a net increase of only $4. Assume a risk-averse investor holds a portfolio of bonds, because bonds are known to be less risky than stocks. If you owned 500 shares of FedEx, what was your dollar return? Assume that the market is in equilibrium so that expected returns equal required returns. What is the average monthly return? (a) A decrease in default risk on corporate bonds lowers the demand for these bonds, but increases the demand for default-free bonds. Compute the value of this stock with a required return of 8 percent. It is calculated by estimating the probability of a full range of returns on an investment, with the probabilities summing to 100%. Calculate the security's equilibrium rate of return. A manager believes his firm will earn a 12 percent return next year. What will be the change in the bond's price in dollars? The current bond price will increase and interest rates on new bonds will decrease. The new appropriate discount rate will be 6.00 percent. Which of these is a measure summarizing the overall past performance of an investment? a) The probability of default is zero b) The bond is callable Answer: The probability of default is zero. It paid a $1.30 per share dividend last year. Bondholders have a required rate of return of 12%p.a. r = 2.5% + 1.45(10% - 2.5%) = 13.375% 3. His firm has a beta of 1.6, the expected return on the market is 11 percent, and the risk-free rate is 3 percent. The size of the firm measured as the current stock price multiplied by the number of shares outstanding is referred to as the firm's, Stock valuation model dynamics make clear that higher dividend growth rates lead to, All of the following are stock market indices except, Stock valuation model dynamics make clear that lower discount rates lead to, discounting the future dividends and future stock price appreciation. Small Cap – Dimensional US Small Cap Index: 11.5%Bonds – Barclays US Aggregate Bond Index: 5.3%. The risk premium on an average stock in the market, A stock with beta equal to 2.4 would most likely be considered. Assume a risk free rate of 4.75%. Which of the following is a concern regarding beta? At the current stock price of $26.07, what is the return shareholders are expecting? You have a portfolio with a beta of 1.25. Assume that a bond is quoted to be selling at a price equal to $106, per $100 of face value. Which of the following are the stock of small companies that are priced below $1 per share? Triple-A (AAA) rated bonds are those deemed least likely to default. It ended last year at $145.50. Expected return on an asset (r a), the value to be calculated; Risk-free rate (r f), the interest rate available from a risk-free security, such as the 13-week U.S. Treasury bill.No instrument is completely without some risk, including the T-bill, which is subject to inflation risk. Year-to-date, Company O had earned a 3.60 percent return. Please show all work and formulas. Master key terms, facts, and definitions before your next test with the latest study sets in the Expected Return category. The higher the probability that the return on an investment will not pay off its average promised value, the higher the expected return must be to induce an investor to invest in it. Answer: B Question Status: Previous Edition 35) Which of the following statements are true? Discount bond: a bond that sells below its par value Premium bond: a bond that sell above its par value (2) Yield to maturity (YTM): the return from a bond if it is held to maturity Example: a 10-year bond carries a 6% coupon rate and pays interest semiannually. Bond-rating agencies take into account a company's balance sheet and many other factors. What is the best definition of efficient portfolio? Given a required return of 7%, the intrinsic value of this investment is: The correct answer is: $14437 A zero coupon bond has a face value of $2000 and a current price of $624. The real rate of interest on the loan is equal to 4%. The market has an expected rate of return of 9.8 percent. This is an example of a market overreaction. Which of the below would be correct? The past four monthly returns for K and Company are 1.50 percent, 0.40 percent, -0.60 percent, and 1.20 percent. A company has a beta of 0.75. Which of the following is a correct statement about the two stocks? Over the next two years, the real interest rate is expected to be 2.15 percent per year and the inflation premium is expected to be 1.75 percent per year. FedEx Corp. stock ended the previous year at $118.30 per share. The expected rate of return is the return on investment that an investor anticipates receiving. Expected Return. Sally has researched GLE and wants to pay no more than $50 for the stock. The long-term government bond is expected to yield 4.5 percent and the U.S. Treasury bill is expected to yield 3.4 percent. TC corporate bond with yield of 8.76 percent and B & O corporate bond with a yield of 5.99, under which conditions will an investor demand a smaller return on a bond, if a bonds yield to maturity use above its coupon rate, bond prices must decline at the same time, all of the following items would need to be included in the bond's indenture agreement except, which of these statements answers why bonds are known as fixed income securities, investors know how much they will receive in interest payments, when market interest rates rise we will expect an increase int he yield to maturity on an already outstanding bond, if the coupon rate equals 7% then a corresponding $1,000 face value bond, assume that a bond is quoted to be selling at a price equal to $93, per $100 of face value. the expected return on default-free bonds. Portfolio Blue dominates Portfolio Purple, Which of these is defined as a combination of investment assets held by an investor. Year-to-Date, Company O had earned a 2.30 percent return. When people purchase a stock, they do not know what their return is going to be - either short term or in the long run. The y-intercept of the SML is equal to the risk-free interest rate, while the slope is equal to the market risk premium (the market’s rate of return minus the risk-free rate). Which of these is the term for portfolios with the highest return possible for each risk level? The past four monthly returns for K and Company are -2.60 percent, 1.80 percent, 2.60 percent, and 1.50 percent. The new appropriate discount rate will be 9 percent. CODES (2 months ago) 11 new "zero Coupon Bonds" Quizlet results have been found in the last 90 days, which means that every 8, a new "zero Coupon Bonds" Quizlet result is figured out. In return for this safety, the bonds return the lowest interest rate. U.S. Bancorp holds a press conference to announce a positive news event that was unexpected to the market. The holding period return yield formula may be used to compare the yields of different bonds in your portfolio over a given time period. It also claims that this stock is a "safe bet" for the future. If a preferred stock from Pfizer Inc. (PFE) pays $3.00 in annual dividends, and the required return on the preferred stock is 17 percent, what's the value of the stock? Which of these is a theory that describes the types of information that are reflected in current stock prices? ... Stock in Ombor Medical Supplies earns a return of 5.3% annually, while bonds issued by Ombor Medical Supplies earns a return of 4.1% annually. a corporations 10 years bond are currently yielding a return of 7.75 percent. What is GEN's market capitalization? Price of the bond with the required rate of return: PV ($1,152.12) FV $1,000.00 PMT 120 N 15 I 10% Given your required rate of return, you would value the bond to be worth $1,152.12 today. Calculate the price of a 6.5 percent coupon bond with 27 years left to maturity and a market interest rate of 5 percent. a corporations 10 years bond are currently yielding a return of 7.75 percent. What should be YTM for the bond? Which of the following is the reward investors require for taking risk? Consider a portfolio comprised of four securities in the following proportions and with the indicated security beta. It paid a $0.80 per share dividend last year at $105.80. What yield to maturity is the bond offering? If you owned 600 shares of FedEx, what was your percent return? If you owned 100 shares of FedEx, what was your dollar return? A corporate bond with a 5.75 percent coupon has 15 years left to maturity. b-1) What is the variance of this portfolio? During the same period, Company V earned 1.70 percent and Company M earned -1.20 percent. The expected return and risk of Portfolio Yellow are 15 percent and 19 percent, and for the Purple Portfolio are 12 percent and 18 percent. It has had a credit rating of BBB and a yield to maturity of 8.0 percent. Jenna receives an investment newsletter that recommends that she invest in a stock that has doubled the return of the S&P 500 in the last two months. the expected inflation premium is 3.0 percent annually and the real interest rate is expected to be 3.00 percent annually over the next 10 years. If you have a portfolio made up of 40 percent Company O, 40 percent Company V, and 20 percent Company M, what is your portfolio return? Given this information which of the following statements is correct? "zero Coupon Bonds" Quizlet - 06/2020. Expected return The expected return on a risky asset, given a probability distribution for the possible rates of return. Which of these is the reward for taking systematic stock market risk? Given this information which of the following statements is correct? If you have a portfolio made up of 50 percent Company O, 30 percent Company V, and 20 percent Company M, what is your portfolio return? Which of the following is the asset pricing theory based on a beta, a measure of market risk? Which of the following is a true statement? This is a measure of the co-movement between two variables that ranges between -1 and +1, Company A = 71 shares, Company B = 117 shares, Company F = 615 shares. If you owned 400 shares of FedEx, what was your percent return? A stock with beta equal to 0.4 would most likely be considered, Whenever a set of stock prices go unnaturally high and subsequently crashes down, the market experiences what we call, This is the average of the possible returns weighted by the likelihood of those returns occuring. Which of these is similar to the Capital Market Line, except that risk is characterized by beta instead of standard deviation? The average rate of return will give us a high-level view of the profitability of the project and can help us access if it is worth investing in the project or not. It graphs the relationship between beta (β) and expected return, i.e. The Vanguard fund had both a higher average annual return for the period and a lower standard deviation. Most common stocks are positively correlated with each other because they are impacted by the same economic factors. It paid a $1.30 per share dividend last year. What will be the change in the bond's price in percentage terms? At … Which of the following are investor diversification problems? Compute the return the firm should earn given its level of risk and determine whether the manager is saying the firm is undervalued or overvalued. Which of the following is the model that includes an equation that relates a stock's required return to an appropriate risk premium? The expected return on Stock A should be greater than that on B. e. The expected return on Stock B should be greater than that on A. Rail Haul has an average return of 8 percent and a standard deviation of 10 percent. It ended last year at $131.70. Rank the following three stocks by their level of total risk, highest to lowest. American Eagle Outfitters (AEO) recently paid a $0.38 dividend. The security has no special covenants. We think they will be useful in estimating future expected return. Easy to use and portable, study sets in Expected Return are great for studying in the way that works for you, at the time that works for you. As mentioned in the section above, a Sharpe ratio of … Assume you borrow 100 apples and in 1 year you return 107 apples. Stock B has a required return of 8%. An efficient portfolio, also known as an ‘optimal portfolio’, is one that provides that best expected return on a given level of risk, or alternatively, the minimum risk for a given expected return.A portfolio is a spread of investment products.. Which of the following is a correct statement about the two stocks? It ended last year at $131.70. Ex… the stock price should not be impacted because nothing fundamental about the company has been changed, and as there will be less funds generated to pay out future dividends. Determine which one of these three portfolios dominates another. A fast growing firm recently paid a dividend of $0.50 per share. Company X has a beta of 1.45. what is the default risk premium on the corporation's 10 year bonds? A corporate bond with a 5 percent coupon has 10 years left to maturity. FedEx Corp. ended the previous year at $96.20 per share. Their recent dividend was $.69. Assume when plotting stock Z on a security market line diagram the stock would be found above the security market line. Which of these is similar to the capital market line, except that risk is characterized by beta instead of standard deviation? Sally would be best served to: Stock valuation model dynamics make clear that higher discount rates lead to, Stock valuation model dynamics make clear that lower dividend growth rates lead to, When residual cash flows are high, stock values will be, Why is it expected to be using higher discount rates to discount stock dividend payments compared to the discount rates used to discount bond coupon payments, because the cash flows resulting from owning a stock are typically more risky than the cash flows resulting from owning a bond. The long-term government bond is expected to yield 4.8 percent and the U.S. Treasury bill is expected to yield 2.7 percent. Understand the expected rate of return formula. Actual Return: An actual return is the actual gain or loss of an investor. You also own $3,000 of Rent-N-Co (beta = 1.5) and $6,000 of Lincoln Corporation (beta = 2). During the same time period, Company V earned -2.50 percent and Company M earned 1.60 percent. Expected return = expected dividend yield + expected capital gains yield g P D g g P D rs 0 0 0 1 ^ *(1) In the above example, 0.05 0.0525 0.05 10.25% 40 *(1 ) 2.00*(1 0.05) 0 0 ^ g P D g rs where 5.25% is the expected dividend yield and 5% is the expected capital gains … This is an example of a market underreaction. Which of the following is one of those assumptions? If you have a portfolio made up of 20 percent Company O, 30 percent Company V, and 50 percent Company M, what is your portfolio return? Risk is reduced without necessarily reducing the expected return. They're customizable and designed to help you study and learn more effectively. Assume that the maturity risk premium is zero. The investment newsletter contains contrary information since the stock must be a high risk and therefore cannot also be a "safe bet". the expected inflation premium is 3.0 percent annually and the real interest rate is expected to be 3.00 percent annually over the next 10 years. It has had a credit rating of BB and a yield to maturity of 6.25 percent. As soon as the announcement is made, the stock price increases $8 per share but then over the next hour the price falls resulting in a total increase of $11. Which of the following describes what will occur as you randomly add stocks to your portfolio? A stock with beta equal to 1 would most likely be considered, to be of about the same risk as the overall stock market, Shares of stock issued to employees that have limitations on when they can be sold are known as. Calculate the maturity risk premium on the two-year Treasury security. Cash flows for an investment for today, next year and the year after are forecast to be $4000, $5000 and $6600. At face value, the coupon rate and yield equal each other. Firms can quite possibly change their stocks' risk level by substantially changing their business. Which of the bonds below would be most liquid? The annual T-bill yield during the same period was 4.3 percent. If you owned 400 shares of FedEx, what was your dollar return? FedEx Corp. stock ended the previous year at $136.20 per share. By starting from the risk-free rate on the vertical axis and drawing a tangent to the envelope consisting of all efficient portfolios. According to the Fisher Effect equation, the nominal rate of interest is equal to, the real rate of interest plus the inflation rate, the higher the liquidity risk, the higher the interest rate that security buyers will demand, If you want to get a 2% real raise at work so that you can buy 2% more of the things you like, and you expect the inflation rate to be around 3% in the future, you will have to ask for a, This is the risk that a security issuer will miss an interest or principal payment or continue to miss such payments. As residual claimants, these investors claim any cash flows to the firm that remain after the firm pays all other claims. week lecture chapter 15: the term structure of interest rate problem sets question under the expectations hypothesis, if the yield curve is upward-sloping, the Portfolio Blue has an expected return of 13 percent and risk of 17 percent. Discover free flashcards, games, and test prep activities designed to help you learn about Expected Return and other concepts. If the management team of a company decides to increase the dividend payment for the current year. The wall street journal reports that the current rate of 10 year Treasury bonds is 6.75 percent on 20 year treasury bonds is 7.25 percent and on a 20 year bond is 8.50 percent. What is the average monthly return? The bond is currently selling at a price below its par value. 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