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Chapter Two INVESTMENT ALTERNATIVES Multiple Choice Questions

1. a. b. c. d. 2. a. b. c. d. 3. a. b. c. d. 4. a. b. c. d. 5. a. b. c. d. 6. a. b. c. d. 7. a. b. c. d. 8. a. b. c. d. The largest single institutional owner of common stocks is: mutual funds. insurance companies. pension funds commercial banks Which of the following is not one of the characteristics of the primary nonmarketable financial assets owned by most individuals? high liquidity high return often issued by the U.S. government low risk Savings accounts are ---------- but are not------------. negotiable; liquid. marketable; liquid. liquid; personal liquid; marketable Series EE bonds must be held at least ------- years in order to receive the guaranteed minimum rate. 3 5 8 10 Treasury bills are traded in the --------------------- . money market. capital market. government market. regulated market. Which of the U.S. Treasury securities is always sold at a discount? Treasury bills Treasury notes Treasury bonds All of the Treasury securities are sold at a discount. Which of the following statements regarding money market instruments is not true? They tend to be highly marketable. They tend to require a small dollar investment. They tend to have a low probability of default. Their rates tend to move together. Which of the following would not be considered a capital market security? a 20-year corporate bond a common stock a 6-month Treasury bill a mutual fund share

b. c. b. 13. b. can buy a bond at any time and gain the interest accrued from the time of the last payment. buy a bond at any time and receive an immediate interest check. b. a. This means an investor: can sell a bond at any time without losing the interest that has accrued. c. They receive a fixed payment per month. are sold at less than par. d. a. a. a. 16. c. are money-market securities. stated interest rate. A municipal bond issue that was sold to finance a toll bridge would most likely be a: general obligation bond. current yield. b. can sell a bond at any time and retain the interest portion of the bond. d. reissued as new bonds with a lower interest rate. reissued as new bonds with a higher interest rate. d. d. a. The coupon rate is another name for the: market interest rate.9. The stated maturity is generally 10 years. c. c. b. revenue bond. Bonds called in are likely to be: bonds already in default. c. d. are capital-market securities. c. All of the above are true. c. 10. b. zero-coupon bond. 11. yield to maturity Zero-coupon bonds are similar to Treasury bills in that both: are issued exclusively by the U. a. a. 15. d. c. d. d. 14. d. Each point on a bond quote represents: $100 1 percent of $100 1 percent of $1000 $1000 Zero coupon Treasury securities are known as: TIGERS LYONS STRAPS STRIPS Bonds trade on an accrual interest basis. a. 12. What will a bond be worth on the day it matures? $0 $100 its face value impossible to determine Which of the following statements is true regarding an investment in mortgage-backed securities? There is little default risk. Treasury. b. b. a. special assessment bond.S. junk bonds. . 17.

c. 25. Unlike other bonds. c. Dividends are typically paid: monthly. d. There is no brokerage commission on municipal bonds unlike other bonds. 22. d. a. b. a. d. b. a. yearly. c. If an investor states that Intel is overvalued at 65 times. Municipal bond interest is tax-exempt. d. a. 26. municipal bonds sell at a discount. b. 20. P/E ratio. c. 24. . b. semi-annually. Fannie Mae is an example of a: federal agency quasi-federal agency federally dependent agency federally sponsored agency Interest on bonds is typically paid: monthly quarterly semiannually annually Treasury bonds generally have maturities of: 5 to 15 years 5 to 30 years 10 to 20 years 10 to 30 years Which of the following types of municipal bonds is generally considered the riskiest? General obligation bonds Revenue bonds Serial bonds Term bonds An unsecured bond is known as a: debenture indenture mortgage bond junk bond The first four categories of bond ratings are known as _______. investment grade securities. a. 23. top drawer securities. risk-free securities. b. d. quarterly.18. c. c. c. a. high-yield securities. b. d. d. interest on other bonds is not. c. b. b. 19. a. 21. c. a. book value. he is referring to: earnings per share. d. dividend yield. What is the major difference between municipal bonds and other types of bonds? Municipal bonds are always insured. d. other bonds are not. a. b.

unpaid dividends are never repaid. b. . a. c. c. dividends are legally binding on the corporation. c. b. 32. a.represent shares of foreign companies kept in banks. d. b.27. Options give investors a way to manage portfolio risk while futures do not. 29. The market value of common stock is equal to its book value. ---------------. 28. d. The premium on an option is the: par value of the option. They generally have low credit ratings. a. If a preferred stock issue is cumulative. Options can be used by speculators to profit from price fluctuations while futures cannot. d. unpaid dividends will be paid in the future. b. Which of the following statements is true regarding asset-backed securities (ASB)? They offer relatively high yields. d. All of the above are true. price at which a security may be bought or sold using the option. price of the option. All of the above are true. Options is the right to buy or sell while a futures contract is an obligation to buy or sell. Which of the following is not one of the factors that influence the value of an option? the current premium current interest rates volatility of the stock time remaining to maturity a. c. convertible bonds American Depository Receipts (ADRs) asset-backed securities LEAPS Which of the following statements regarding common stocks is true? The par value of common stock is usually $100. c. d. this means: dividends are paid at the end of the year. d. Dividends on common stock are at the discretion of the company. b. What is the biggest difference between an option and a futures contract? Options are traded on exchanges while futures are not. book value of the option. b. a. a. b. a. 33. 31. d. c. They have relatively long maturities. c. 30.

6.S. 9. Treasury notes represent the nontrade debt of the U. government securities are considered marketable securities. 3. An example of indirect investing would be buying shares in a mutual fund. Marketable securities all fall into the category of capital market securities. 25. 18. 7. 4. In the case of a corporate bankruptcy. 16. The capital market includes both fixed-income and equity securities. the lower the effective return. 3. and preferred stock. 1. government. 7. 12. bondholders are paid before any distributions are paid to preferred or common stockholders. 15. Money market securities generally carry a low chance of default. The rate spreads between the different money market securities of the same term tend to be quite large. it is selling at a premium. Distinguish between direct and indirect investing. If a bond has a coupon greater than the current market yield. 2. 5. Short-Answer Questions . S. 20. The major bond rating service is Dun & Bradstreet. 5. 11. 8. 8. 23. The return on a zero-coupon bond is derived from the difference between the price paid and par value. 13. The deeper the discount on a zero-coupon bond. How is the earnings retention rate related to the dividend payout rate? Why is the ex-dividend date before the holder-of-record date? How is the total book value of equity affected by stock splits In what sense is a stock selling for 12 times earnings “cheaper” than a stock with a P/E ratio of 20? What are two direct and one indirect method for individuals to invest in foreign stocks? Explain how writing option contracts (both puts and calls) can generate income for owners of the underlying stock. Investors in high tax brackets would be unlikely to invest in municipal bonds. Compare the cash flows an investor expects from coupon bonds. Most futures contracts are not exercised. Term bonds have a single maturity. 17.True-False Questions 1. The earnings retention rate is calculated as 1 – dividend yield. 4. 14. LEAPS have maturities dates up to 10 years. Direct investing involves trades made by directly purchasing shares of a financial intermediary. Callable bonds attract investors because they can be redeemed early. 24. 6. 19. 10. 22. 21. The money market security most often used a benchmark for the risk-free rate is money market deposit account rate. Nonmarketable investments would include savings accounts at banks and Treasury bills. Bond ratings are primarily used to assess interest rate risk. The par value on common stock sets the value that stockholders will receive in case of bankruptcy. TIPS adjust for inflation by adjusting the rate of interest paid on the bond. zerocoupon bonds. The major attraction of municipal bonds is their extremely low risk. All U. 2.

50. U. 2. 10.9. Rank (lowest to highest) the following securities in terms of the riskexpected return tradeoff from the investors’ viewpoint: common stock. Do the stock options markets help stabilize or destabilize the stock markets? Explain. The investor should be willing to buy tax-exempt municipal bonds of similar quality yielding what percent or higher? The par value of Blaze. Calculate the dividend yield. . options.606 percent. the earnings per share is $4. the earnings per share is $4. Treasury bonds. Inc. S. Calculate the payout ratio.. How do asset-backed securities improve the flow of funds from savers to borrowers? What stated coupon rate would a taxable corporate bond have to have to be comparable to a municipal bond with a coupon rate of 7 percent if the investor is in the 28 percent tax bracket? A corporate investor in a 34 percent marginal income tax bracket can buy bonds issued by a petroleum exploration company yielding 10. Problems 1. preferred stock. The par value of Blaze. the market price is $60. the market price is $60. 4. What are some advantages of asset-backed securities to investors? Critical Thinking/Essay Questions 1. the dividend per share is $1. 2. common stock is $0. common stock is $0.50. Inc. corporate bonds. the dividend per share is $1. 3.