Question 1: With regard to market efficiency, what is meant by the term "anomaly"? Give three examples of market anomalies and explain why each is considered to be an anomaly.
Question 2: Suppose that all investors expect that interest rates for the 4 years will be as follows:
Year Forward Interest Rate
0(today) 5%
1 7%
2 9%
3 10%
What is the price of 3-year zero coupon bond with a par value of $1,000?
Question 3: Mature Products Corporation produces goods that are very mature in their product life cycles. Mature Products Corporation is expected to pay a dividend in year 1 of $2.00, a dividend of $1.50 in year 2, and a dividend of $1.00 in year 3. After year 3, dividends are expected to decline at a rate of 1% per year. An appropriate required rate of return for the stock is 10%. The risk-free rate of return is 4% and the expected return on the market portfolio is 9%. The stock of Mature Products Corporation has a beta of 1.2. How much should the stock should be worth?
Question 4: You buy one Xerox June 60 call contract and one June 60 put contract. The call premium is $5 and the put premium is $3.
a. What is your strategy called?
b. What is your maximum loss from this strategy?
c. At expiration, at what price(s) will you break even?
Question 5: Discuss the differences in writing covered and naked calls. Are risks involved in the two strategies similar or different? Explain.
Question 6: Aunt Gunda holds her portfolio 100% in U.S. securities. She tells you that she believes foreign investing can be extremely hazardous to her portfolio. She's not sure about the details, but has "heard some things". Discuss this idea with Aunt Gunda by listing three objections you have heard from your clients who have similar fears. Explain each of the objections is subject to faulty reasoning.