QUESTION 1
Which of the following IS one of the assumptions of the Arbitrage Pricing Theory?
A. Non-systematic risk can be diversified away
B. All investors are risk-neutral
C. Firms' investing policy is independent of their financing policies
D. Investors have homogenous expectations
E. Small firms outperform large firms in the long run
QUESTION 2
One of the main approaches in selecting factors in factor models is Factor Analysis. What is the main disadvantage of this approach?
A. The number of factors to be included in the model can vary substantially depending on the underlying data
B. It provides little economic insight regarding the factors
C. The R2 of the model is usually very low
D. Some macroeconomic factors cannot be measured precisely
E. Costs of acquiring data for this approach are very high
QUESTION 3
In a "good" outcome a gambler will receive £5 in 12 months time. She will receive nothing in the event of a "bad" outcome. The gambler values the bet at £2. Using risk-neutral valuation, which of the following is the probability of winning (to the nearest two decimal places) if the risk-free rate is 5 percent per annum? Use discrete compounding.
A. 0.46
B. 0.42
C. 0.38
D. 0.49
E. 0.56
QUESTION 4
The Fama and French Three Factor Model is based on empirical evidence, that:
A. Investing in larger firms yields higher returns than investing in smaller firms
B. Investing in value stocks yields higher returns than investing in growth stocks
C. Investing in growth stocks yields higher returns than investing in value stocks
D. Investing in risk-free bonds yields higher returns than investing in low beta stocks
E. Investing in risk-free bonds yields higher returns than investing in high beta stocks
QUESTION 5
One of the main approaches in selecting factors in factor models is the Macroeconomic Factor Analysis. What is the main advantage of this approach?
A. The ability to incorporate firm size as a factor
B. Statistical presicion of factor loading estimates
C. Factors have intuitive meaning
D. High R2 of the regressions
E. The ability to incorporate firm's book-to-market ratio as a factor
QUESTION 6
Which of the following statements is correct?
A. In the absence of taxes, companies with lower leverage are more valuable than companies with higher leverage
B. High leverage decreases the volatility of the net income available to investors
C. Low leverage increases the volatility of the net income available to shareholders
D. High leverage increases the volatility of the net income available to investors
E. In the absence of taxes, companies with higher leverage are more valuable than companies with lower leverage
QUESTION 7
Which one of the following is NOT an assumption of the Modigliani and Miller Capital Structure Irrelevance Theorem (1958)?
A. Financing policy does not impact on the firm's cash flows
B. There are no taxes
C. Investors are homogenous
D. Investors and corporate insiders share the same information
E. There are no transaction costs
QUESTION 8
Which of the following factors is used alongside the SMB and HML factors in the Fama and French Three Factor Model?
A. Inflation rate
B. GDP growth rate
C. The Market risk premium
D. The risk-free rate
E. The Market raw return
QUESTION 9
Consider a European-style call option on a stock that is currently trading at £60. The strike price of the call is £75. Assume that, in the next 12 months, the stock price can either go up to £85 or go down to £35. Using risk-neutral valuation, which of the following is the current value of the option if the risk-free rate is 3 percent per annum? Use discrete compounding.
A. £5.15
B. £4.35
C. £4.98
D. £5.76
E. £5.20
QUESTION 10
Two firms, U and G, are identical in every respect except for their capital structures. Company U is all-equity financed, whereas G is partly funded by debt. The market value of U's equity is £10 million and the total market value of G's debt is £2 million. The tax rate on equity (TE) is 20% and the tax rate on capital gains (TC) is 15%. If the tax rates on debt (TD) is 20% then, according to Miller (1977), which of the following is the total market value of G?
A. £10 million
B. £10.7 million
C. £11 million
D. £9.7 million
E. £10.3 million
QUESTION 11
Consider 2 stocks:
Stock A has a CAPM Beta of 1.7, whilst Stock B has a CAPM Beta of 0.8.
Which one of the following statements is correct?
A. Stock A has a lower systematic risk
B. Stock A has a higher total risk
C. Stock A has a lower non-systematic risk
D. Stock A has a higher systematic risk
E. Stock A has a higher non-systematic risk
QUESTION 12
A share with a current price of £10.00 goes ex-dividend. On the ex-dividend date, the price drops to £9.50. If the tax rate on income is equal to the tax rate on capital gains for all investors, what was the dividend per share?
A. £0.50
B. £0.68
C. £0.72
D. £0.92
E. £0.37
QUESTION 13
In which of the following industries are companies the least likely to use the Real Options approach in evaluating projects?
A. Oil and Gas exploration
B. Mining
C. Pharmaceuticals
D. Retail
E. Aerospace
QUESTION 14
Which one of the following is NOT an assumption of the Capital Asset Pricing Model?
A. Returns on all stocks are positively correlated with market returns
B. Investors have homogenous expectations
C. All investors can borrow at the risk-free rate
D. The only features of stocks that investors are interested in are their expected returns, the standard deviations of those returns, and their correlation with the returns of other assets (including other stocks)
E. There are no transaction costs
QUESTION 15
In which of the following cases will the call holder decide NOT to exercise the option at maturity?
A. If the price of the underlying is greater than the strike price
B. If the price of the underlying is greater than the strike price and it is the American-style option
C. If the actual holding period return for the underlying exceeds the expected return
D. If the price of the underlying is greater than the strike price and it is the European-style option
E. If the price of the underlying is lower than the strike price
QUESTION 16
ABC plc had earnings per share of £15.00 last year and paid a dividend of £4 per share. The company's target payout ratio is 40%.
Using the Lintner (1956) model of dividend policy with an adjustment rate of 50%, what dividend will ABC plc pay this year if earnings per share are £20.00?
A. £5.75
B. £6.75
C. £5.50
D. £6.00
E. £6.50
QUESTION 17
Two firms, U and L, are identical in every respect except for their capital structures. Company U is all-equity financed, whereas L is partly funded by debt. The market value of U's equity is £20 million and the total market value of L's debt is £12 million. The corporate tax rate is 30%. If all the assumptions of ‘Modigliani and Miller Theorem with Taxes (1961)' apply, which of the following is the market value of L's equity?
A. £13.7 million
B. £11.6 million
C. £23.6 million
D. £10 million
E. £18 million
QUESTION 18
Which of the following can be used as a factor in Factor Models?
A. The inflation rate
B. Expected change in the inflation rate
C. Unexpected change in the inflation rate
D. Change in the oil price
E. All of the above
QUESTION 19
The tax rate on equity (TE) is 25% and the tax rate on capital gains (TC) is 20%. If the tax rates on debt (TD) is 40% then, according to Miller (1977), which of the following statements is correct?
A. The optimal capital structure of firms is 50% debt and 50% equity
B. The optimal capital structure incudes enough debt to offset the firms' corporate tax liability
C. The optimal capital structure of firms is all debt
D. The optimal capital structure of firms is all-equity
E. Capital structure does not impact on firm value
QUESTION 20
The CAPM Beta of a stock is directly proportional to:
A. Covariance between the returns on the market and stock returns
B. Standard deviation of the market returns
C. Standard deviation of the stock returns
D. Variance of the stock returns
E. Stock's Return on Equity (ROE).