Question 1. Which of the following factors would be mo

1. Which of the following factors would be most likely to lead to an increase in nominal interest rates?

a. Households reduce their consumption and increase their savings.

b. A new technology like the Internet has just been introduced, and it increases investment opportunities.

c. There is a decrease in expected inflation.

d. The economy falls into a recession.

e. The Federal Reserve decides to try to stimulate the economy.

2. The real risk-free rate is 3.05%, inflation is expected to be 2.75% this year, and the maturity risk premium is zero. Ignoring any cross-product terms, what is the equilibrium rate of return on a 1-year Treasury bond?

a. 5.51%

b. 5.80%

c. 6.09%

d. 6.39%

e. 6.71%

3. Kelly Inc’s 5-year bonds yield 7.50% and 5-year T-bonds yield 4.90%. The real risk-free rate is r* = 2.5%, the default risk premium for Kelly’s bonds is DRP = 0.40%, the liquidity premium on Kelly’s bonds is LP = 2.2%versus zero on T-bonds, and the inflation premium (IP) is 1.5%. What is the maturity risk premium (MRP) on all 5-year bonds?

a. 0.73%

b. 0.81%

c. 0.90%

d. 0.99%

e. 1.09%

4. Kop Corporation’s 5-year bonds yield 6.50%, and T-bonds with the same maturity yield 4.40%. The default risk premium for Kop’s bonds is DRP = 0.40%, the liquidity premium on Kop’s bonds is LP = 1.70% versus zero on T-bonds, the inflation premium (IP) is 1.50%, and the maturity risk premium (MRP) on 5-year bonds is 0.40%. What is the real risk-free rate, r*?

a. 2.04%

b. 2.14%

c. 2.26%

d. 2.38%

e. 2.50%

Answer: b

5. Under normal conditions, which of the following would be most likely to increase the coupon rate required for a bond to be issued at par?

a. Adding additional restrictive covenants that limit management’s actions.

b. Adding a call provision.

c. The rating agencies change the bond’s rating from Baa to Aaa.

d. Making the bond a first mortgage bond rather than a debenture.

e. Adding a sinking fund.

6. Bond A has a 9% annual coupon, while Bond B has a 7% annual coupon. Both bonds have the same maturity, a face value of $1,000, an 8% yield to maturity, and are noncallable. Which of the following statements is CORRECT?

a. Bond A’s capital gains yield is greater than Bond B’s capital gains yield.

b. Bond A trades at a discount, whereas Bond B trades at a premium.

c. If the yield to maturity for both bonds remains at 8%, Bond A’s price one year from now will be higher than it is today, but Bond B’s price one year from now will be lower than it is today.

d. If the yield to maturity for both bonds immediately decreases to 6%, Bond A’s bond will have a larger percentage increase in value.

e. Bond A’s current yield is greater than that of Bond B.

7. 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. $817.12

b. $838.07

c. $859.56

d. $881.60

e. $903.64

8. Adams Enterprises’ noncallable bonds currently sell for $1,120. 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. 5.84%

b. 6.15%

c. 6.47%

d. 6.81%

e. 7.17%

9. Moerdyk Corporation’s bonds have a 15-year maturity, a 7.25% semiannual coupon, and a par value of $1,000. The going interest rate (r_d) is 6.20%, based on semiannual compounding. What is the bond’s price?

a. $1,047.19

b. $1,074.05

c. $1,101.58

d. $1,129.12

e. $1,157.35: d

10. Sadik Inc.’s bonds currently sell for $1,180 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. 6.63%

b. 6.98%

c. 7.35%

d. 7.74%

e. 8.12%

11. Bonds A, B, and C all have a maturity of 10 years and a yield to maturity of 7%. Bond A’s price exceeds its par value, Bond B’s price equals its par value, and Bond C’s price is less than its par value. None of the bonds can be called. Which of the following statements is CORRECT?

a. If the yield to maturity on each bond decreases to 6%, Bond A will have the largest percentage increase in its price.

b. Bond A has the most interest rate risk.

c. If the yield to maturity on the three bonds remains constant, the prices of the three bonds will remain the same over the next year.

d. If the yield to maturity on each bond increases to 8%, the prices of all three bonds will decline.

e. Bond C sells at a premium over its par value.

12. An investor is considering buying one of two 10-year, $1,000 face value, noncallable bonds: Bond A has a 7% annual coupon, while Bond B has a 9% annual coupon. Both bonds have a yield to maturity of 8%, and the YTM is expected to remain constant for the next 10 years. Which of the following statements is CORRECT?

a. Bond B has a higher price than Bond A today, but one year from now the bonds will have the same price.

b. One year from now, Bond A’s price will be higher than it is today.

c. Bond A’s current yield is greater than 8%.

d. Bond A has a higher price than Bond B today, but one year from now the bonds will have the same price.

e. Both bonds have the same price today, and the price of each bond is expected to remain constant until the bonds mature.

13. Bill Dukes has $100,000 invested in a 2-stock portfolio. $35,000 is invested in Stock X and the remainder is invested in Stock Y. X’s beta is 1.50 and Y’s beta is0.70. What is the portfolio’s beta?

a. 0.65

b. 0.72

c. 0.80

d. 0.89

e. 0.98

14. Tom O’Brien has a 2-stock portfolio with a total value of $100,000. $37,500is invested in Stock A with a beta of 0.75 and the remainder is invested in Stock B with a beta of 1.42. What is his portfolio’s beta?

a. 1.17

b. 1.23

c. 1.29

d. 1.35

e. 1.42

15. Porter Inc’s stock has an expected return of 12.25%, a beta of 1.25, and is in equilibrium. If the risk-free rate is 5.00%, what is the market risk premium?

a. 5.80%

b. 5.95%

c. 6.09%

d. 6.25%

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