Primary market transactions

Problem 1. If an individual investory buys and sells existing stocks through a broker, these are primary market transactions.

a. True
b. False

Problem 2. A call provision gives bondholders not bond issuers the right to demand, or "call for," repayment of a bond. Typically, calls are exercised if interest rates rise, because when rates rise the bondholder can get the principal amount back and reinvest it elsewhere at higher rates.

a. True
b. False

Problem 3. Although common stock represents a riskier investment to an individual than do bonds, in the sense of exposing the firm to the risk of bankruptcy, bonds represent a riskier method of financing to a corporation than does common stock.

a. True
b. False

Problem 4. Preferred stockholders have priority over common stockholders with respect to earnings. Dividends must be paid on preferred stock before they can be paid on common stock. In exchange for this priority to dividends, preferred stockholders give up their priority claims to common stockholders in the event of bankruptcy.

a. True
b. False

Problem 5. An investor purchased a call option that allows her to purchase 100 shares of Dell Computer common stock for $45 per share any time during the next six months. The price she paid for the option was $2.50 per share, or $250 total, and the current market price of Dell's stock is $42.50. If the price of Dell increases to $50 and the investor decides to exercise it, what will the gain or loss that results from the option position that was held? Ignore taxes and commissions, but include the cost of the option.

a. $500 gain
b. $250 loss
c. $750 gain
d. $250 gain

Problem 6. Investment bankers are not really like commercial "bankers" in the sense of taking deposits and issuing loans; rather, they help firms issue securities in the secondary market and their activities are limited to raising new equity capital.

a. True
b. False

Problem 7. Finances places primary emphasis on cash flows, the inflow and outflow of cash and not accounting income.

a. True
b. False

Problem 8. The marginal tax rate (not average tax rate) represents the rate at which additional income is taxed.

a. True
b. False

Problem 9. Assume that the expectations theory holds and that liquidity and maturity risk premiums are zero. If the annual rate of interest on a 2-yr Treasury bond is 10.5% and the rate on a 1 yr Treasury bond in 12%, what rate of interest should you expect on a 1-year Treasury bond one yr from now?

a. 9.0%
b. 9.5%
c. 10.0%
d. 10.5%

Problem 10. Which of the following powers or tools of Federal Reserve monentary policy has the greatest impact on the money supply?

a. Discount rate
b. Regulation Q
c. Open market operations

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Finance Basics: Primary market transactions
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