Professional Documents
Culture Documents
04:CorporaateFinancee
Spring2017
Prof.OuzhanKaraaka
ProblemSet#2
LecturreNotes#5
1. Re eviewthefolllowingquestiionsatthePrroblemSetss ectionofBMA,Chapter20
0:
Questions15,
Q 16,and18.
LecturreNotes#6
2. Re eviewthefolllowingquestiionsatthePrroblemSetss ectionofBMA,Chapter6::
Questions6,10
Q 0,and11.
3. A food processing company has just de eveloped a n ew kind of soup. It is now
w trying to d
decide
whethertobu
w ildaplantanndputthesoupintoproduuction.Inund dertakingthisscapitalbudggeting
exxercise whichh of the follo
owing cash flows
f should be treated as incremental when deeciding
whethertogo
w aheadandprroducetheso oup?
A.. Theresearchandde evelopmentccoststhatweereincurredd developingthesoup.
B.. Thevalueofthelan ndtheplantwwillbebuiltonnwhichiscurrentlyownedbythecom mpany.
C.. Theco onsequentred esalesofthe company'sexistingsoupb
ductioninthe brands.
D. Thesalvagevalueo ndequipmen tattheendo
oftheplantan ofitsplanned dlife.
E. Thean nnualdepreciaationcharge.
F. Marketingexpensesfortheprod duct.
G. Aprop portionofexp pensesfortheheadofficeeassumingth heseexpenseesareindepeendent
ofwhe ethersoupisproduced.
H. InteresstPayments.
I. DividendPayments.
J. Theexxpendituresfiveyearsfrom mnowwhich willbenecesssarytoensu uretheplant meets
regulattionswhichw willcomeintooforcethen.
4. Th he Follies Co
ompany need ds to replace some of ttheir lightingg equipment. They can either
puurchaselightssfromGEor fromPhilips..TheGEequ ipmentlasts forfouryearrswhiletheP Philips
eqquipmentlasttsforthree.TThediscountrateforthistypeofprojeectis10%.Theperforman nceof
thhetwotypes oflightisthe esame.The aftertaxcostts(i.e.alltheefiguresbelo owarenegatiive)at
eaachdateareaasfollows:
LectureNotes#7
8. ReviewthefollowingquestionsattheProblemSetssectionofBMA,Chapter10:
Questions1,2,3,4,6,and7.
9. ReviewthefollowingquestionsattheProblemSetssectionofBMA,Chapter25:
Questions1,2,3,and4.
12. Whichofthefollowingstatementsis/arecorrect(seeSiegelreadingintheCP)?
A. The total real aftertax rate of return on equity was lower between 19261990 than 1871
1925.
B.Therealrateofreturnonshorttermgovernmentbondswaslowerbetween19261990than
18711925.
C. In the period 19261990 the return from holding stocks for ten years was greater than the
returnfromholdingshorttermbondsforthesameperiod89.2percentofthetime.
D. In the period 18711990 the return from holding stocks for ten years was greater than the
returnfromholdinglongtermbondsforthesameperiod83.3percentofthetime.
13. Whichofthefollowingstatementsis/arecorrect?
A.Meanandstandarddeviationhavethesameunits.
B.Meanisameasureofdispersion.
C. If two random variables have a negative covariance it means they tend to move in the
oppositedirection.
D.Iftworandomvariablesdon'tmovetogetherorinoppositedirectionsonaverageatallthey
haveazerocovariance.
E.Correlationcoefficientsmustbeequalto1and+1orlieinbetween.
14. ThestocksAandBhavethefollowingdistributionsofreturns.
ABProbability
State1 340.2
State2 520.3
State3 480.2
State4 650.1
State5 610.2
(i)Whatarethemeans,variancesandstandarddeviationsofstocksAandB?
(ii)WhatarethecovarianceandcorrelationbetweenstocksAandB?
(iii)Consideraportfoliowith=0.50inAand1=0.5inB.Whatarethemean,varianceand
standarddeviationofthisportfolio?
15. Whichofthefollowingis/arecorrect?
A. When two stocks have a correlation of 1 it is always possible to construct a portfolio with
zerostandarddeviation.
B.Theriskofawelldiversifiedportfoliodependsontheuniqueriskofthestockscontainedin
theportfolio.
C.Otherthingsequal,thegreaterthenumberofindependentstocks(i.e.thecovariancesareall
zero)inanequallyweightedportfoliothesmallerthestandarddeviationoftheportfolio.
16. Use EXCEL to answer this question. Stock X has mean return 0.15 and standard deviation 0.6.
StockYhasmeanreturn0.10andstandarddeviation0.4.Thecorrelationbetweenthemis+0.1.
Plottheportfoliolocusforthesetwostocksinmeanstandarddeviationspacewiththemeanon
the vertical axis and the standard deviation on the horizontal axis. Specifically, trace the risk
return tradeoff given by combining these two stocks in varying amounts. Let represent the
proportionofwealthinvestedinXand1theproportioninY.Allowtovarybetween0.2and
1.2instepsof0.1.WhatinvestmentsinXandYdotheportfolioswith<0and>1correspond
to?Attachacopyofyourplot(fromExcel)oftheefficiencylocusandthedataitisbasedonwith
youranswers.
17. Supposethatthestandarddeviationofreturnsoneachindividualstockis40%perannumand
thatthecovariancebetweeneachpairofstocksis0.25.Whatistheannualstandarddeviationof
anequallyweightedwelldiversifiedportfolio?(Assume1/N=O)
18. The risk free rate is 8 percent and the expected return on the market portfolio is 16 percent.
Whatistheexpectedreturnonawelldiversifiedportfoliowithabetaof0.6?
19. Phillippeborrows$15,000at5%andinveststhistogetherwith$15,000ofhisownmoneyinthe
marketportfolio.Ifthemarketportfoliohasastandarddeviationof15%,whatisthestandard
deviationofthereturntohisinvestment?
20. Whichofthesestrategieswouldofferthesameexpectedreturntoaninvestorasastockwitha
betaof0.5?
A.InvestingahalfofhermoneyinTbillsandinvestingtheremainderinthemarketportfolio
B.Borrowinganamountequaltoonehalfofherownresourcesandinvestingeverythinginthe
marketportfolio
C. Borrowing an amount equal to her own resources and investing everything in the market
portfolio
D.Noneoftheabove
ExamStyleQuestions
21. (a)Supposetherearethreetypesofpeopleinaneconomy,typeA's,B'sandC's.Therearethree
assetsX,YandZ.AssetsXandYareriskybutassetZisriskfree.TypeA'shold45percentoftheir
portfoliosinX,30percentinYand25percentinZ.TypeB'shold30percentoftheirportfoliosin
X, 20 percent in Y and 50 percent in Z. Type C's hold 15 percent in X, 10 percent in Y and 75
percentinZ.AretheseholdingsconsistentwiththeCapitalAssetPricingModelbeingsatisfied?
Explainverybrieflywhyorwhynot.
(b) Suppose that the Capital Asset Pricing Model holds. The market portfolio has an expected
return of 0.14 and a standard deviation of 0.35. The risk free rate is 0.05. How could you
construct a portfolio having an expected return of 0.20? What are the beta and standard
deviationofthisportfolio?