112-02 Corporate Finance CH1011 Quiz01 (20240408)

ID: _________________ Dept.:___________________ Name:______________________

I Multiple Choice Questions (3 Marks Each)
_____1. The excess return required from a risky asset over that required from a risk-free asset is called the: A)
risk premium B) geometric premium. C) excess return D) average return.
_____2. The standard deviation for a set of stock returns can be calculated as the: A) positive square root of the
average return. B) average squared difference between the actual return and the average return. C)
positive square root of the variance. D) average return divided by N minus one, where N is the number
of returns.
_____3. The capital gains yield plus the dividend yield on a security is called the: A) variance of returns. B)
current yield. C) average period return. D) total return.
_____4. Which one of the following types of securities has tended to produce the lowest real rate of return for
the period 1926 through 2020? A) U.S. Treasury bills B)long-term government bonds C)small company
stocks D) large company stocks E)long-term corporate bonds
_____5. Over the period of 1926 through 2020, the annual rate of return on _____ has been more volatile than
the annual rate of return on _____. A) large company stocks; small company stocks B) U.S. Treasury bills;
small company stocks C) U.S. Treasury bills; long-term government bonds D) long-term corporate bonds;
small company stocks E) large company stocks; long-term corporate bonds
_____6. Which one of the following statements concerning the excess return is correct? A) The greater the
volatility of returns, the greater the expected excess return. B) The lower the volatility of returns, the greater
the expected excess return. C) The lower the average rate of return, the greater the excess return. D) The
excess return is not correlated to the average rate of return. E) The excess return is not affected by the
volatility of returns.
_____7. One year ago, you purchased 100 shares of stock for $39.46 per share. At the end of the year, the
stock paid dividends of $6.00 per share. Today, the stock is worth $28.70 per share. What is the total dollar
return per share to date from this investment? A) −$76.00 B) −$4.76 C) −$6.00 D) −$14.76 E) −$16.76
Total dollar return = $28.70 − 39.46 + $1.50(4)
Total dollar return = −$4.76
_____8. One year ago, you purchased 100 shares of stock at a price of $24.36 per share. During the last year,
you received quarterly dividends of $.80 per share. Today, the stock price is $34.48. What is the dividend
yield? A) 13.14% B) 29.35% C)3.28% D) 9.28% E) 41.54%
Dividend yield = 4($.80)/$24.36
Dividend yield = .1314, or 13.14%
_____9. Three years ago, you purchased a stock at a price of $33.48. The stock paid annual dividends of $.60
per share. Today, the stock is worth $35.20 per share. What is your holding period return? A) 10.51% B)
10.03% C) 6.93% D) 5.14% E) 6.59%
R3 = [$35.20 − 33.48 + 3($.60)]/$33.48
R3 = .1051, or 10.51%
_____10. You own a stock that had returns of 11.26 percent, −7.62 percent, 24.48 percent, and 16.72 percent
over the past four years. What was the geometric average return for this stock? A) 9.84% B) 10.55% C)
11.66% D) 12.14% E) 11.21%
Geometric return = [(1 + .1126) × (1 − .0762) × (1 + .2448) × (1 + .1672)]1/4 − 1
Geometric return = .1055, or 10.55%
_____11. The expected return on a stock that is computed using economic probabilities is: A) guaranteed to
equal the actual average return on the stock for the next five years. B) guaranteed to be the minimal rate of
return on the stock over the next two years. C) guaranteed to equal the actual return for the immediate
twelve month period. D) a mathematical expectation and not an actual anticipated outcome. E) the actual
return you will receive.
_____12. The correlation between Stocks A and B is computed as the: A) covariance between A and B divided
by the standard deviation of A times the standard deviation of B. B) standard deviation of A divided by the

1
 standard deviation of B. C) standard deviation of AB divided by the covariance between A and B. D)
variance of A plus the variance of B divided by the covariance of AB. E) square root of the covariance of
AB.
_____13. If the correlation between two stocks is −1, the returns on the stocks: A) generally move in the same
direction. B) move perfectly opposite one another. C) are unrelated to one another. D) have standard
deviations of equal size but opposite signs. E) totally offset each other producing a rate of return of zero.
_____14. If a stock portfolio is well diversified, then the portfolio variance: A) will equal the variance of the
most volatile stock in the portfolio. B) may be less than the variance of the least risky stock in the portfolio.
C) must be equal to or greater than the variance of the least risky stock in the portfolio. D) must be a
weighted average of the variances of the individual securities in the portfolio. E) will be an arithmetic
average of the variances of the individual securities in the portfolio.
_____15. As we add more diverse securities to a portfolio, the ____ risks of the portfolio will decrease. A)
undiversifiable B) systematic C) unsystematic D) market E) common
_____16. The Capital Market Line describes the relationship between A) expected return and total risk for
efficient portfolios B) expected return and market risk for individual securities C) the standard deviation and
the beta for efficient portfolios D) beta and the risk premium for any portfolio E) beta and total risk for
individual securities.
_____17. The beta of a security is calculated by dividing the: A) covariance of the security return with the
market return by the variance of the market. B) correlation of the security return with the market return by
the variance of the market. C) variance of the market by the covariance of the security return with the
market return. D) variance of the market return by the correlation of the security return with the market
return. E) covariance of the security return with the market return by the correlation of the security and
market returns.
_____18. The risk premium for an individual security is computed by: A) multiplying the security's beta by the
market risk premium. B) multiplying the security's beta by the risk-free rate of return. C) adding the risk-
free rate to the security's expected return. D) dividing the market risk premium by the quantity (1 + β). E)
dividing the market risk premium by the beta of the security.
_____19. The slope of the security market line is the: A) reward-to-risk ratio. B) portfolio weight. C) beta
coefficient. D) risk-free interest rate. E) market risk premium.
_____20. A stock with a beta of zero would be expected to have a rate of return equal to: A) the risk-free rate.
B) the market rate of return. C) the prime rate. D) the market risk premium. E) zero.
II Problem (10 Marks Each)
1. A stock had the following year-end prices and dividends:
Year Price Dividend
0 $ 60.43 —
1 72.20 $ 1.28
2 62.90 1.61
3 73.28 1.63
What was the arithmetic average return for the stock?
Year 1 return = ($72.20 − 60.43 + 1.28) / $60.43 = .2160, or 21.60%
Year 2 return = ($62.90 − 72.20 + 1.61) / $72.20 = −.1065, or −10.65%
Year 3 return = ($73.28 − 62.90 + 1.63) / $62.90 = .1909, or 19.09%

Arithmetic average return = (21.60% − 10.65 + 19.09) / 3

Arithmetic average return = .1001, or 10.01%

2. A stock had annual returns of 8 percent, 14 percent, and 2 percent for the past three years. Based on these
returns, what range of returns would you expect to see 99.73% of the time?

Average return = (.08 + .14 + .02)/3

Average return = .08, or 8%

SD = {[(.08 − .08)2 + (.14 − .08)2 + (.02 − .08)2]/(3 − 1)}.5

SD = .06, or 6%

2
 Upper bound99.73% = .08 + 3(.06)
Upper bound99.73% = .26, or 26%

Lower bound99.73% = .08 - 3(.06)

Lower bound99.73% = -2%

There is a .5 percent probability the stock will return more than 26 percent in any one given year.

3. What is the beta of a portfolio comprised of the following securities?

Stock Amount Invested Security Beta
A $ 4,900 1.62
B $ 5,900 1.73
C $ 8,400 1.00
Portfolio value = $4,900 + 5,900 + 8,400
Portfolio value = $19,200

βPortfolio = 1.62($4,900/$19,200) + 1.73($5,900/$19,200) + 1.00($8,400/$19,200)

βPortfolio = 1.383

4. Based on the following information, calculate the expected return and the standard deviation.
State of Economy Probability of State of Rate of Return if State
Economy Occurs
Recession 0.3 −9%
Normal 0.4 12%
Boom 0.3 21%

0.084 0.007182 0.084747

Expected Variance SD
Return

5. You decide to invest in a portfolio consisting of 40 percent Stock X, and 60 percent Stock Y.

Probability of Return if State Occurs

State of
State of
Economy
Economy
Stock X Stock Y Portfolio
Ression 0.1 -7.00% -7.00% ?
Normal 0.6 3.00% -9.00% ?
Boom 0.3 20.00% 30.00% ?
Expected Return ? ? ?
Variance 0.007989 0.031509 ?

Correlation Coefficient between

X and Y 0.933514

Based on the above information, calculate:

a) Expected return of Stock X, Stock Y, and Stock Z.
b) Expected return of the portfolio.
c) Variance of the portfolio (If the variance of Stock X is 0.007989 , the variance of Stock Y is
0.031509, and the correlation coefficient between Stock X and Stock Y is 0.933514)

3
6. The risk-free rate is 4.2 percent and the market expected return is 11.1 percent. What is the expected
return of a stock that has a beta of 1.27?

E(R) = .042 + 1.27(.111 − .042)

E(R) = .1296, or 12.96%