Question 1

Which of the following actions best illustrates adverse selection?

Accepted Answer

A)  A person adds risky stock to his portfolio.
B)  A person who has narrowly avoided many accidents applies for automobile insurance.
C)  A person is unwilling to buy a stock when she believes its price has an equal chance of rising or falling $10.
D)  A person purchases homeowners insurance and then checks his smoke detector batteries less frequently.E) A) and B)
F) A) and C)

Question 2

If you put $250 into an account with a 4 percent interest rate, how many years would you have to wait to have $432.92?

Accepted Answer

A)  10
B)  14
C)  17
D)  20E) None of the above
F) B) and D)

Question 3

Hector puts $150 into an account when the interest rate is 4 percent. Later he checks his balance and finds he has about $168.73. How long did Hector wait to check his balance?

Accepted Answer

A)  3 years
B)  3.5 years
C)  4 years
D)  4.5 yearsE) A) and B)
F) B) and D)

Question 4

Increasing the number of corporations whose stocks are in your portfolio reduces market risk.

Accepted Answer

A) True 
 B)False

Question 5

Studies find that mutual fund managers who do well in one year are likely to do well the next year.

Accepted Answer

A) True 
 B)False

Question 6

According to the efficient markets hypothesis, the number of people who think a stock is overvalued exactly balances the number of people who think a stock is undervalued.

Accepted Answer

A) True 
 B)False

Question 7

According to the efficient markets hypothesis, worse-than-expected news about a corporation will

Accepted Answer

A)  have no effect on its stock price.
B)  raise the price of the stock.
C)  lower the price of the stock.
D)  change the price of the stock in a random direction.E) A) and D)
F) B) and C)

Question 8

In answering which of the following questions would you find it necessary to calculate a present value?

Accepted Answer

A)  Should Jane put $1,000 today into a 5-year certificate of deposit that pays 4 percent annual interest?
B)  Should ABC Corporation buy a factory today for $2 million, knowing that the factory will yield the corporation $3 million after 5 years?
C)  If Jill puts $5,000 today into a bank account that pays 3 percent interest, then how much will she have in the account after 2 years?
D)  You would find it necessary to calculate a present value in order to answer all of these questions.E) B) and D)
F) C) and D)

Question 9

Some people claim that stocks follow a random walk. What does this mean?

Accepted Answer

A)  The price of stock one day is about what it was on the previous day.
B)  Changes in stock prices cannot be predicted from available information.
C)  Stock prices are not determined by market fundamentals such as supply and demand.
D)  Prices of stocks of different firms in the same industry show no or little tendency to move together.E) All of the above
F) A) and C)

Question 10

The future value of a deposit in a savings account will be larger

Accepted Answer

A)  the longer a person waits to withdraw the funds.
B)  the higher the interest rate is.
C)  the larger the initial deposit is.
D)  All of the above are correct.E) All of the above
F) None of the above

Question 11

If a person is risk averse, then she has

Accepted Answer

A)  diminishing marginal utility of wealth, implying that her utility function gets flatter as wealth increases.
B)  diminishing marginal utility of wealth, implying that her utility function gets steeper as wealth increases.
C)  increasing marginal utility of wealth, implying that her utility function gets flatter as wealth increases.
D)  increasing marginal utility of wealth, implying that her utility function gets steeper as wealth increases.E) None of the above
F) A) and B)

Question 12

Assuming the interest rate is 6 percent, which of the following has the greatest present value?

Accepted Answer

A)  $300 paid in two years
B)  $150 paid in one year plus $140 paid in two years
C)  $100 paid today plus $100 paid in one year plus $100 paid in two years
D)  $285 todayE) A) and B)
F) B) and C)

Question 13

Which of the following is a source of market risk?

Accepted Answer

A)  Holding stocks in many companies carries the risk of a reduced average return.
B)  Real GDP varies over time and sales and profits move with real GDP.
C)  When a paper producer has declining sales, it is likely that so will other paper producers.
D)  If stockholders become aggravated with the way a CEO runs a company, the price of that company's stock might fall in the stock market.E) None of the above
F) A) and B)

Question 14

An increase in the number of corporations in a portfolio from 1 to 10 reduces

Accepted Answer

A)  market risk by more than an increase from 110 to 120.
B)  market risk by less than an increase from 110 to 120.
C)  firm-specific risk by more than an increase from 110 to 120.
D)  firm-specific risk by less than an increase from 110 to 120.E) A) and C)
F) B) and D)

Question 15

A judge requires Harry to make a payment to Sally. The judge says that Harry can pay her either $10,000 today or $11,000 two years from today. Of the following interest rates, which is the lowest one at which Harry would be better off paying $11,000 two years from today?

Accepted Answer

A)  2 percent
B)  3 percent
C)  4 percent
D)  5 percentE) All of the above
F) None of the above

Question 16

You have been promised a payment of $400 in the future. In which of the following cases is the present value of this payment the lowest?

Accepted Answer

A)  You receive the payment 4 years from now and the interest rate is 4 percent.
B)  You receive the payment 4 years from now and the interest rate is 5 percent.
C)  You receive the payment 5 years from now and the interest rate is 4 percent.
D)  You receive the payment 5 years from now and the interest rate is 5 percent.E) A) and D)
F) A) and C)

Question 17

Using the rule of 70, about how much would $100 be worth after 50 years if the interest rate were 7 percent?

Accepted Answer

A)  $400
B)  $800
C)  $1,600
D)  $3,200E) All of the above
F) A) and B)

Question 18

A bank might make mortgages to people in different regions of the country. By doing so

Accepted Answer

A)  the bank reduces the risk it faces from falling house prices in its region and falling prices in all regions.
B)  the bank reduces the risk it faces of falling house prices in its region but not from falling prices in all regions.
C)  the bank reduces the risk it faces of falling house prices in all regions, but not the risk it faces from falling house prices in its regions.
D)  the bank reduces neither the risk it faces from falling house prices in its region nor falling prices in all regions.E) B) and C)
F) A) and D)

Question 19

Figure 14-2. The figure shows a utility function for Mary Ann. 
-Refer to Figure 14-2. From the appearance of the utility function, we know that

Accepted Answer

A)  if Mary Ann owns a house, she would not consider buying fire insurance.
B)  Mary Ann would prefer to hold a portfolio of stocks with an average return of 8 percent and a standard deviation of 2 percent to a portfolio of stocks with an average return of 8 percent and a standard deviation of 5 percent.
C)  Mary Ann would prefer to hold a portfolio of stocks with an average return of 8 percent and a standard deviation of 5 percent to a portfolio of stocks with an average return of 6 percent and a standard deviation of 3 percent.
D)  All of the above are correct.E) B) and C)
F) A) and B)

Question 20

Figure 14-2. The figure shows a utility function for Mary Ann. 
-Refer to Figure 14-2. Suppose the vertical distance between the points (0, A)  and (0, B)  is 5. If her wealth increased from $1,050 to $1,350, then

Accepted Answer

A)  Mary Ann's subjective measure of her well-being would increase by less than 5 units.
B)  Mary Ann's subjective measure of her well-being would increase by more than 5 units.
C)  Mary Ann would change from being a risk-averse person into a person who is not risk averse.
D)  Mary Ann would change from being a person who is not risk averse into a risk-averse person.E) All of the above
F) A) and C)

Exam 14: The Basic Tools of Finance

According to the efficient markets hypothesis, worse-than-expected news about a corporation will

Correct AnswerverifiedShow Answer

In answering which of the following questions would you find it necessary to calculate a present value?

Correct AnswerverifiedShow Answer

Studies find that mutual fund managers who do well in one year are likely to do well the next year.

Correct AnswerverifiedShow Answer

Which of the following is a source of market risk?

Correct AnswerverifiedShow Answer

Using the rule of 70, about how much would $100 be worth after 50 years if the interest rate were 7 percent?

Correct AnswerverifiedShow Answer

Increasing the number of corporations whose stocks are in your portfolio reduces market risk.

Correct AnswerverifiedShow Answer

Which of the following actions best illustrates adverse selection?

Correct AnswerverifiedShow Answer

Some people claim that stocks follow a random walk. What does this mean?

Correct AnswerverifiedShow Answer

A judge requires Harry to make a payment to Sally. The judge says that Harry can pay her either $10,000 today or $11,000 two years from today. Of the following interest rates, which is the lowest one at which Harry would be better off paying $11,000 two years from today?

Correct AnswerverifiedShow Answer

Figure 14-2. The figure shows a utility function for Mary Ann. -Refer to Figure 14-2. Suppose the vertical distance between the points (0, A) and (0, B) is 5. If her wealth increased from $1,050 to $1,350, then

Correct AnswerverifiedShow Answer

You have been promised a payment of $400 in the future. In which of the following cases is the present value of this payment the lowest?

Correct AnswerverifiedShow Answer

According to the efficient markets hypothesis, the number of people who think a stock is overvalued exactly balances the number of people who think a stock is undervalued.

Correct AnswerverifiedShow Answer

Figure 14-2. The figure shows a utility function for Mary Ann. -Refer to Figure 14-2. From the appearance of the utility function, we know that

Correct AnswerverifiedShow Answer

Assuming the interest rate is 6 percent, which of the following has the greatest present value?

Correct AnswerverifiedShow Answer

If you put $250 into an account with a 4 percent interest rate, how many years would you have to wait to have $432.92?

Correct AnswerverifiedShow Answer

If a person is risk averse, then she has

Correct AnswerverifiedShow Answer

A bank might make mortgages to people in different regions of the country. By doing so

Correct AnswerverifiedShow Answer

The future value of a deposit in a savings account will be larger

Correct AnswerverifiedShow Answer

Hector puts $150 into an account when the interest rate is 4 percent. Later he checks his balance and finds he has about $168.73. How long did Hector wait to check his balance?

Correct AnswerverifiedShow Answer

An increase in the number of corporations in a portfolio from 1 to 10 reduces

Correct AnswerverifiedShow Answer

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