The expected return is the amount of profit or loss an investor can anticipate receiving on an investment. Assume when plotting stock Z on a security market line diagram the stock would be found above the security market line. Master key terms, facts, and definitions before your next test with the latest study sets in the Expected Return category. It paid a $0.80 per share dividend last year at $105.80. Which of the following is data that includes past stock prices and volume, financial statements, corporate news, analyst opinions, etc.? Currently, the risk-free rate is 5 percent and the portfolio has an expected return of 10 percent. Answer: B Question Status: Previous Edition 35) Which of the following statements are true? JIM corporate bond with yield of 12.25 percent, IB corporate bond with yield of 4.49 percent. It is calculated by estimating the probability of a full range of returns on an investment, with the probabilities summing to 100%. The past four monthly returns for K and Company are 1.50 percent, 0.40 percent, -0.60 percent, and 1.20 percent. A fast growing firm recently paid a dividend of $0.50 per share. If you owned 100 shares of FedEx, what was your dollar return? 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. We think they will be useful in estimating future expected return. 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. A corporate bond with a 5 percent coupon has 10 years left to maturity. FedEx Corp. stock ended the previous year at $118.30 per share. If you owned 600 shares of FedEx, what was your percent return? American Eagle Outfitters (AEO) recently paid a $0.38 dividend. 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. 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. FedEx Corp. ended the previous year at $96.20 per share. U.S. Bancorp holds a press conference to announce a positive news event that was unexpected to the market. (b) The expected return on corporate bonds increases as default risk increases. The real rate of interest on the loan is equal to 4%. During the same time period, Company V earned -2.50 percent and Company M earned 1.60 percent. What is the beta of your portfolio? Triple-A (AAA) rated bonds are those deemed least likely to default. Which of these is the reward for taking systematic stock market risk? Treasury bills, long-term Treasury bonds, stocks. Round your answer to the nearest whole percent and assume annual coupon payments. 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. 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. Consider a portfolio comprised of four securities in the following proportions and with the indicated security beta. What is the standard deviation of monthly returns? Risk is reduced without necessarily reducing the expected return. This implies that. It has had a credit rating of BB and a yield to maturity of 6.25 percent. 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. ... 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. 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? You own $1,000 of City Steel stock that has a beta of 1. A) 13% It paid a $0.80 per share dividend last year at $105.80. (Assume interest payments are paid semi-annually and a par value of $1,000.) This is an example of a market overreaction. 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? As mentioned in the section above, a Sharpe ratio of … Currently the portfolio is invested in the following manner. Determine which one of these three portfolios dominates another. The formula is the following. Rail Haul has an average return of 8 percent and a standard deviation of 10 percent. a) Your portfolio is invested 40 per cent each in A and C, and 20 per cent in B. Which of the following is the asset pricing theory based on a beta, a measure of market risk? Which of the below is the best description of the effect of portfolio diversification? U.S. Bancorp holds a press conference to announce a positive news event that was unexpected to the market. Like many formulas, the expected rate of return formula requires a few "givens" in order to solve for the answer. 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. What is the change in price the bond will experience in dollars? 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. Which of the following is a concern regarding beta? Calculate the security's equilibrium rate of return. Firms can quite possibly change their stocks' risk level by substantially changing their business. The new appropriate discount rate will be 9 percent. It ended last year at $145.50. taught by Chao Jiang at the University of Kansas. A corporate bond with a 5.75 percent coupon has 15 years left to maturity. Dakota Corporation 15-year bonds have an equilibrium rate of return of 9 percent. Which of the following is the continual increase in the price level of a basket of goods or services? You believe that in one year, the yield to maturity will be 6.25 percent. Which of the following is the reward investors require for taking risk? Portfolio Blue dominates Portfolio Purple, Which of these is defined as a combination of investment assets held by an investor. A two-year Treasury security currently earns 5.13 percent. the liquidity risk premium on the corporation's bond is 0.50 percent. Calculate the price of a 6.5 percent coupon bond with 27 years left to maturity and a market interest rate of 5 percent. What would this position on the diagram imply about stock Z? A bond issued by the United States government, common stock issued by a small but financially strong firm. What will be the new portfolio beta if you keep 60 percent of your money in the old portfolio and 40 percent in a stock with a beta of 0.8. Stock A has a required return of 19%. Yield to maturity is the expected rate of return from a bond until its maturity date. 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. 2. A company has a beta of 0.75. It ended last year at $173.90. This dividend will grow at 11 percent indefinitely. The annual return on the S&P 500 Index was 11.5 percent. What was the market risk premium during that year? Bondholders have a required rate of return of 12%p.a. Afterwards, a more stable rate of 10 percent growth rate can be assumed. Using a 13 percent discount rate, compute the value of this stock. A firm is expected to pay a dividend of $2.00 next year and $2.14 the following year. A firm does not pay a dividend. FedEx Corp. stock ended the previous year at $136.20 per share. 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. Actual Return: An actual return is the actual gain or loss of an investor. At … During the same period, Company V earned 1.70 percent and Company M earned -1.20 percent. Which of the following statements is correct regarding this information? Sally has researched GLE and wants to pay no more than $50 for the stock. Once you have completed the test, … If you owned 400 shares of FedEx, what was your dollar return? 11) What is the expected rate of return on a bond that matures in seven years, has a par value of $1,000, a coupon rate of 14%, and is currently selling for $911? Rank the following three stocks by their level of total risk, highest to lowest. Which of these refer to the ease with which an asset can be converted into cash? 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. If the risk-free rate is 3 percent and the market risk premium is 8 percent, what is the required return for the market? It paid a $1.30 per share dividend last year. What is the average monthly return? For all securities, the inflation risk premium is 1.95 percent and the real interest rate is 3.65 percent. What is the average monthly return? Assume you borrow 100 apples and in 1 year you return 107 apples. 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. The firm has recently gotten into some trouble and the rating agency is downgrading the bonds to BB. Bond-rating agencies take into account a company's balance sheet and many other factors. The security has no special covenants. 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. Which of the debt contracts below would be associated with the biggest interest rate risk? All of these are investor diversification problems. In return for this safety, the bonds return the lowest interest rate. The firm has recently gotten more financially stable and the rating agency is upgrading the bonds to BBB. Stock A has a required return of 15%. Get ready for your Expected Return tests by reviewing key facts, theories, examples, synonyms and definitions with study sets created by students like you. Average Rate of Return = $1,600,000 / $4,500,000; Average Rate of Return = 35.56% Explanation of Average Rate of Return Formula. The holding period return yield formula may be used to compare the yields of different bonds in your portfolio over a given time period. The expected rate of return is the return on investment that an investor anticipates receiving. What will be the new portfolio beta if you keep 60 percent of your money in the old portfolio and 40 percent in a stock with a beta of 0.8? Small Cap – Dimensional US Small Cap Index: 11.5%Bonds – Barclays US Aggregate Bond Index: 5.3%. The larger the standard deviation, the higher the total risk. Given this information which of the following statements is correct? Understand the expected rate of return formula. Discover free flashcards, games, and test prep activities designed to help you learn about Expected Return and other concepts. Which of the below is a measure of the sensitivity of a stock or portfolio to market risk? What is the standard deviation of monthly returns? 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. Hence, the outcome is not guaranteed. it shows expected return as a function of β. 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. 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. FedEx Corp. stock ended the previous year at $118.30 per share. Which of the following is a true statement? Adding some stocks to the existing bond portfolio would most likely, reduce the risk of the portfolio even though stocks are more risky than bonds. Using the CAPM, what is ABC’s expected return? the maturity risk premium is 0.25 percent on two year securities and increase by 0.10 percent for each additional year … 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. The security's liquidity risk premium is 0.35 percent and maturity risk premium is 0.95 percent. Assume a risk-averse investor holds a portfolio of bonds, because bonds are known to be less risky than stocks. Which of the following will only be executed if the order's price conditions are met? 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 past four monthly returns for K and Company are 3.40 percent, 2.30 percent, 0.80 percent, and -0.70 percent. The investment newsletter contains contrary information since the stock must be a high risk and therefore cannot also be a "safe bet". FedEx Corp. ended the previous year at $96.20 per share. Assume that the maturity risk premium is zero. Assume when plotting stock Z on a security market line diagram the stock would be found below the security market line. 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. 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. What is the main reason for calculating averages of past returns on stocks? Which of these is a theory that describes the types of information that are reflected in current stock prices? If a 13 percent discount rate is appropriate for this stock, what is its value? The new appropriate discount rate will be 6.00 percent. FedEx Corp. stock ended the previous year with $165.30 per share. If you owned 500 shares of FedEx, what was your dollar return? The dividend is expected to increase at a 20 percent rate for the next 3 years. compounded semi-annually. Which of these investors earn returns from receiving dividends and from stock price appreciation? It paid a $0.60 per share dividend last year. Given this information which of the following statements is correct? Expected return The expected return on a risky asset, given a probability distribution for the possible rates of return. It is expected to pay its first dividend of $0.10 per share in three years. 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. If you owned 500 shares of FedEx, what was your percent return? A portfolio manager is managing a $10 million portfolio. Compute the value of this stock with a required return of 8 percent. By starting from the risk-free rate on the vertical axis and drawing a tangent to the envelope consisting of all efficient portfolios. b. True A stock has an expected return of 14.5%, the risk-free rate is 4% and the return on the market is 11%. Assume a risk free rate of 4.75%. Expected Return for Portfolio = 50% * 15% + 50% * 7% 2. A bond's yield is more accurately thought of as the effective rate of return based on the actual market value of the bond. Financial analysts believe the stock will be at their target price of $65.00 in two years. Calculate the maturity risk premium on the two-year Treasury security. What yield to maturity is the bond offering? r = 2.5% + 1.45(10% - 2.5%) = 13.375% 3. Assume a risk free rate of 4.75%. Which of the following is one of those assumptions? It paid a $1.30 per share dividend last year. It ended last year at $131.70. If the management team of a company decides to increase the dividend payment for the current year. Assume interest payments are paid semi-annually and par value is $1,000. 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? 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%. 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? The security has no special covenants. If you owned 400 shares of FedEx, what was your percent return? The inflation rate is … 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 Vanguard fund had both a higher average annual return for the period and a lower standard deviation. Which of the following are investor diversification problems? 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). Portfolio Blue has an expected return of 13 percent and risk of 17 percent. Which of these is a measure summarizing the overall past performance of an investment? 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? Which of the following statements is correct? What is the average monthly return? Which of the following terms means that during periods when interest rates change substantially, bondholders experience distinct gains and losses in their bond investments? Currently, GLE, is trading in the market for $51. 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. If the risk premium on this bond is equal to 5%, we would conclude that the risk-free rate is equal to. Which of the following are the stock of small companies that are priced below $1 per share? Expected Return. 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. Answer: You should buy the bond since the actual price of the bond is lower than the price with your required rate. Chapter 2: Bonds, stocks and other securities Try the multiple choice questions below to test your knowledge of this chapter. the expected return on default-free bonds. What would this position on the diagram imply about stock Z? 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. Stock B has a required return of 8%. (a) A decrease in default risk on corporate bonds lowers the demand for these bonds, but increases the demand for default-free bonds. 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 It paid a $0.60 per share dividend last year. All of these statements are valid concerns regarding beta. The past four monthly returns for K and Company are -2.60 percent, 1.80 percent, 2.60 percent, and 1.50 percent. You have a portfolio with a beta of 1.25. Year-to-date, Company O had earned a 3.60 percent return. The past four monthly returns for K and Company are -2.60 percent, 1.80 percent, 2.60 percent, and 1.50 percent. As residual claimants, these investors claim any cash flows to the firm that remain after the firm pays all other claims. 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. This can be expressed in the following formula: expected return (ex-ante) … 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. When people purchase a stock, they do not know what their return is going to be - either short term or in the long run. 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%. It ended last year at $131.70. A particular security's default risk premium is 3 percent, for all securities, the inflation risk premium is 1.75 percent and the real interest rate is 4.2 percent. a) The probability of default is zero b) The bond is callable Answer: The probability of default is zero. Our most popular study sets are an effective way to learn the things you need to know to ace your exams. The dividend is expected to grow at a 14.5 percent rate. Expected return is based on historical data, so investors should take into consideration the likelihood that each security will achieve its historical return given the current investing environment. This is an example of a market underreaction. 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. Which of the following statements is correct regarding diversification? What is the best definition of efficient portfolio? The annual T-bill yield during the same period was 4.3 percent. Year-to-date, Company O had earned a 3.50 percent return. 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. What is the expected return of the portfolio? Interest rates, inflation and economic growth are economic factors that are examples of __________________. Anticipate receiving on an investment, with the latest study sets are an effective to. Risk-Averse investor holds a portfolio of bonds, stocks and other concepts contracts below would be found below security! Trading in the expected rate of return of 8 percent position on the corporation 's 10 bonds. Cap Index: 11.5 % bonds – Barclays US Aggregate bond Index: 5.3 % 13 percent discount rate 3! Purple, which of the following three stocks by their level of a 's! Below to test your knowledge of this chapter of these is a concern regarding beta years! 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